Item 8. Financial Statements and Supplementary Data

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Description	Page
Report on Management’s Assessment of Internal Control Over Financial Reporting	36
Report of Independent Registered Public Accounting Firm	37
Consolidated Statements of Income and Comprehensive Income for the Years Ended May 31, 2020, 2019, and 2018	39
Consolidated Balance Sheets as of May 31, 2020 and 2019	40
Consolidated Statements of Stockholders’ Equity for the Years Ended May 31, 2020, 2019, and 2018	41
Consolidated Statements of Cash Flows for the Years Ended May 31, 2020, 2019, and 2018	42
Notes to Consolidated Financial Statements	43
Schedule II — Valuation and Qualifying Accounts for the Years Ended May 31, 2020, 2019, and 2018	74

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REPO****RT ON MANAGEMENT’S ASSESSMENT OF

INTERNAL CONTROL OVER FINANCIAL REPORTING

Management of Paychex, Inc. (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended. The Company’s internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the financial statements for external purposes in accordance with generally accepted accounting principles.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Management assessed the effectiveness of the Company’s internal control over financial reporting as of May 31, 2020. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in “Internal Control — Integrated Framework” (2013). Based on our assessment, management determined that the Company maintained effective internal control over financial reporting as of May 31, 2020.

The Company’s independent registered public accounting firm, PricewaterhouseCoopers LLP, is appointed by the Company’s Audit Committee. PricewaterhouseCoopers LLP has audited the Consolidated Financial Statements included in this Annual Report on Form 10-K and the effectiveness of the Company’s internal control over financial reporting as of May 31, 2020, and as a part of their integrated audit, has issued their report, included herein, on the effectiveness of the Company’s internal control over financial reporting.

/s/ Martin Mucci Martin Mucci President and Chief Executive Officer		/s/ Efrain Rivera Efrain Rivera Senior Vice President, Chief Financial Officer, and Treasurer

‎

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RE****PORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of Paychex, Inc.

Opinions on the Financial Statements and Internal Control over Financial Reporting

We have audited the accompanying consolidated balance sheets of Paychex, Inc. and its subsidiaries (the “Company”) as of May 31, 2020 and 2019, and the related consolidated statements of income and comprehensive income, of stockholders’ equity, and of cash flows for each of the three years in the period ended May 31, 2020, including the related notes and financial statement schedule listed in the accompanying index (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of May 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of May 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended May 31, 2020 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of May 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the COSO.

Change in Accounting Principle

As discussed in Note A to the consolidated financial statements, the Company changed the manner in which it accounts for leases on June 1, 2019.

Basis for Opinions

The Company's management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Report on Management’s Assessment of Internal Control Over Financial Reporting. Our responsibility is to express opinions on the Company’s consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.

Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

Definition and Limitations of Internal Control over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

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Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Critical Audit Matters

The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the consolidated financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.

Professional Employer Organization (PEO) Insurance Reserves - Workers’ Compensation Insurance Reserves

As described in Note A to the consolidated financial statements, the Company offers workers’ compensation insurance to clients for the benefit of client employees. Workers’ compensation insurance is primarily provided under fully insured high deductible workers’ compensation insurance policies. Workers’ compensation insurance reserves are established to provide for the estimated costs of paying claims up to per occurrence liability limits. As of May 31, 2020, the total liability for workers’ compensation insurance reserves is $173.6 million. In establishing the workers' compensation insurance reserves, management uses an independent actuarial estimate of undiscounted future cash payments that would be made to settle the claims. The evaluation, review and determination of estimated ultimate losses by the Company’s appointed actuary are based on actuarial methods and assumptions. The estimated ultimate losses are primarily based upon estimated loss development factors, and other factors such as the nature of employees’ job responsibilities, the historical frequency and severity of workers’ compensation claims, and an estimate of future cost trends.

The principal considerations for our determination that performing procedures relating to PEO insurance reserves - workers’ compensation insurance reserves is a critical audit matter are (i) the significant judgment by management in determining the workers’ compensation insurance reserves, which in turn led to a high degree of auditor judgment, subjectivity and effort in performing our procedures and evaluating management’s assumptions and actuarial estimates related to the estimated loss development factors and other factors such as the historical frequency and severity of workers’ compensation claims and an estimate of future cost trends, and (ii) the audit effort included the involvement of professionals with specialized skill and knowledge.

Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to the Company’s workers’ compensation insurance reserves, including controls over the development of management’s assumptions and actuarial estimates related to the estimated loss development factors. These procedures also included, among others (i) the involvement of professionals with specialized skill and knowledge to assist in developing an independent estimate of the workers’ compensation insurance reserves and (ii) comparison of this independent estimate to management’s estimate to evaluate the reasonableness of management’s estimate. Developing an independent estimate involved (i) testing the completeness and accuracy of data provided by management and (ii) evaluating management’s assumptions and actuarial estimates related to the estimated loss development factors and other factors such as the historical frequency and severity of workers’ compensation claims and an estimate of future cost trends.

/s/ PricewaterhouseCoopers LLP

Rochester, New York

July 17, 2020

We have served as the Company’s auditor since 2013.

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PA****YCHEX, INC.

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

In millions, except per share amounts

Year ended May 31,			2020			2019			2018
Revenue:
Management Solutions		$	2,963.0		$	2,877.7		$	2,758.4
PEO and Insurance Solutions			990.6			814.2			555.8
Total service revenue			3,953.6			3,691.9			3,314.2
Interest on funds held for clients			86.9			80.6			63.5
Total revenue			4,040.5			3,772.5			3,377.7
Expenses:
Cost of service revenue			1,280.8			1,177.8			1,018.2
Selling, general and administrative expenses			1,299.2			1,223.4			1,068.0
Total expenses			2,580.0			2,401.2			2,086.2
Operating income			1,460.5			1,371.3			1,291.5
Other (expense)/income, net			(23.4)			(3.3)			8.6
Income before income taxes			1,437.1			1,368.0			1,300.1
Income taxes			339.0			333.6			306.0
Net income		$	1,098.1		$	1,034.4		$	994.1
Other comprehensive income/(loss), net of tax			56.4			36.3			(56.2)
Comprehensive income		$	1,154.5		$	1,070.7		$	937.9
Basic earnings per share		$	3.06		$	2.88		$	2.77
Diluted earnings per share		$	3.04		$	2.86		$	2.75
Weighted-average common shares outstanding			358.5			359.2			359.0
Weighted-average common shares outstanding, assuming dilution			361.0			361.8			361.5

See Notes to Consolidated Financial Statements.

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PA****YCHEX, INC.

CONSOLIDATED BALANCE SHEETS

In millions, except per share amounts

As of May 31,		2020			2019
Assets
Cash and cash equivalents		$	905.2		$	673.6
Restricted cash			49.8			50.6
Corporate investments			27.2			39.0
Interest receivable			26.2			27.4
Accounts receivable, net of allowance for doubtful accounts			384.1			420.5
PEO unbilled receivables, net of advance collections			380.0			406.3
Prepaid income taxes			16.8			22.6
Prepaid expenses and other current assets			244.8			233.9
Current assets before funds held for clients			2,034.1			1,873.9
Funds held for clients			3,430.5			3,803.8
Total current assets			5,464.6			5,677.7
Long-term restricted cash			21.3			6.5
Long-term corporate investments			10.2			10.2
Property and equipment, net of accumulated depreciation			407.4			408.7
Operating lease right-of-use assets, net of accumulated amortization			114.8			—
Intangible assets, net of accumulated amortization			330.6			399.1
Goodwill			1,791.1			1,782.6
Long-term deferred costs			372.5			366.3
Other long-term assets			38.2			24.9
Total assets		$	8,550.7		$	8,676.0
Liabilities
Accounts payable		$	79.4		$	75.9
Accrued corporate compensation and related items			131.7			146.4
Accrued worksite employee compensation and related items			512.4			578.6
Short-term borrowings			5.1			—
Accrued income taxes			50.5			—
Deferred revenue			39.2			40.3
Other current liabilities			277.6			219.5
Current liabilities before client fund obligations			1,095.9			1,060.7
Client fund obligations			3,331.0			3,784.3
Total current liabilities			4,426.9			4,845.0
Accrued income taxes			33.5			27.3
Deferred income taxes			240.8			223.1
Long-term borrowings, net of debt issuance costs			796.8			796.4
Operating lease liabilities			96.9			13.0
Other long-term liabilities			174.4			151.7
Total liabilities			5,769.3			6,056.5
Commitments and contingencies — Note R
Stockholders’ equity
Common stock, $0.01 par value; Authorized: 600.0 shares; Issued and outstanding: 358.8 shares as of May 31, 2020 and 359.3 shares as of May 31, 2019, respectively.			3.6			3.6
Additional paid-in capital			1,289.9			1,206.3
Retained earnings			1,431.4			1,409.5
Accumulated other comprehensive income			56.5			0.1
Total stockholders’ equity			2,781.4			2,619.5
Total liabilities and stockholders’ equity		$	8,550.7		$	8,676.0

See Notes to Consolidated Financial Statements.

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PAY****CHEX, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

In millions

													Accumulated
							Additional						other
		Common stock					paid-in			Retained			comprehensive
		Shares		Amount			capital			earnings			income/(loss)			Total
Balance as of May 31, 2017		359.4		$	3.6		$	1,030.0		$	1,173.6		$	20.0		$	2,227.2
Net income											994.1						994.1
Unrealized losses on securities, net of tax														(47.6)			(47.6)
Cash dividends declared ($2.06 per share)											(739.7)						(739.7)
Repurchases of common shares		(2.5)						(4.5)			(138.6)						(143.1)
Acquisition of businesses		0.6						33.2									33.2
Stock-based compensation								44.6									44.6
Foreign currency translation adjustment														(8.6)			(8.6)
Activity related to equity-based plans		1.5						23.5			(26.8)						(3.3)
Balance as of May 31, 2018		359.0			3.6			1,126.8			1,262.6			(36.2)			2,356.8
Net income											1,034.4						1,034.4
Unrealized gains on securities, net of tax														44.0			44.0
Cash dividends declared ($2.30 per share)											(826.8)						(826.8)
Repurchases of common shares		(0.7)						(1.4)			(55.5)						(56.9)
Stock-based compensation								46.2									46.2
Foreign currency translation adjustment														(7.7)			(7.7)
Activity related to equity-based plans		1.0						34.7			(5.2)						29.5
Balance as of May 31, 2019		359.3			3.6			1,206.3			1,409.5			0.1			2,619.5
Net income											1,098.1						1,098.1
Unrealized gains on securities, net of ‎ reclassification adjustments and tax														60.4			60.4
Cash dividends declared ($2.48 per share)											(889.4)						(889.4)
Repurchases of common shares		(2.0)						(3.7)			(168.2)						(171.9)
Stock-based compensation								47.4									47.4
Foreign currency translation adjustment														(4.0)			(4.0)
Activity related to equity-based plans		1.5						39.9			(18.6)						21.3
Balance as of May 31, 2020		358.8		$	3.6		$	1,289.9		$	1,431.4		$	56.5		$	2,781.4

See Notes to Consolidated Financial Statements.

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PA****YCHEX, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

In millions

Year ended May 31,		2020			2019			2018
Operating activities
Net income		$	1,098.1		$	1,034.4		$	994.1
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			209.7			181.5			138.0
Amortization of premiums and discounts on available-for-sale securities, net			40.8			49.0			65.4
Amortization of deferred contract costs			186.1			180.2			174.7
Stock-based compensation costs			47.4			46.2			44.6
(Benefit)/provision for deferred income taxes			(4.0)			4.7			(37.2)
Provision for allowance for doubtful accounts			7.8			3.3			3.6
Net realized gains on sales of available-for-sale securities			(11.3)			—			(0.1)
Changes in operating assets and liabilities:
Interest receivable			1.2			4.8			3.7
Accounts receivable and PEO unbilled receivables, net			55.1			(117.2)			16.2
Prepaid expenses and other current assets			(1.6)			1.0			18.0
Accounts payable and other current liabilities			(4.9)			77.5			42.9
Deferred costs			(196.6)			(188.5)			(181.8)
Net change in other long-term assets and liabilities			12.7			(5.4)			(5.7)
Net change in operating lease right-of-use assets and liabilities			0.4			—			—
Net cash provided by operating activities			1,440.9			1,271.5			1,276.4
Investing activities
Purchases of available-for-sale securities			(25,218.1)			(35,145.8)			(50,220.2)
Proceeds from sales and maturities of available-for-sale securities			26,132.9			34,638.8			51,592.9
Purchases of property and equipment			(127.0)			(123.8)			(154.0)
Acquisition of businesses, net of cash acquired			(6.1)			(992.2)			(180.4)
Purchases of other assets			(9.8)			(5.3)			(39.8)
Net cash provided by/(used in) investing activities			771.9			(1,628.3)			998.5
Financing activities
Net change in client fund obligations			(453.3)			(950.6)			462.4
Net proceeds from short-term borrowings			5.1			—			—
Proceeds from borrowings to fund acquisition			—			796.3			—
Dividends paid			(889.4)			(826.8)			(739.7)
Repurchases of common shares			(171.9)			(56.9)			(143.1)
Activity related to equity-based plans			21.3			29.5			(3.4)
Net cash used in financing activities			(1,488.2)			(1,008.5)			(423.8)
Net change in cash, restricted cash, and equivalents			724.6			(1,365.3)			1,851.1
Cash, restricted cash, and equivalents, beginning of fiscal year			935.2			2,300.5			449.4
Cash, restricted cash, and equivalents, end of fiscal year		$	1,659.8		$	935.2		$	2,300.5
Reconciliation of cash, restricted cash, and equivalents
Cash and cash equivalents		$	905.2		$	673.6		$	358.2
Restricted cash			71.1			57.1			—
Restricted cash and restricted cash equivalents included in funds held for clients			683.5			204.5			1,942.3
Total cash, restricted cash, and equivalents		$	1,659.8		$	935.2		$	2,300.5

See Notes to Consolidated Financial Statements.

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PAY****CHEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note A — Description of Business, Basis of Presentation, and Significant Accounting Policies

Description of business: Paychex, Inc. and its wholly owned subsidiaries (collectively, the “Company” or “Paychex”) is a leading provider of integrated human capital management (“HCM”) solutions for human resources (“HR”), payroll, benefits, and insurance services for small- to medium-sized businesses in the United States (“U.S.”). The Company also has operations in parts of Europe.

Paychex, a Delaware corporation formed in 1979, reports as one segment. Substantially all of the Company’s revenue is generated within the U.S. The Company also generates revenue within parts of Europe, which represented one percent of the Company’s total revenue for each of the fiscal years ended May 31, 2020 (“fiscal 2020”) and May 31, 2019 (“fiscal 2019”), and less than one percent for the fiscal year ended May 31, 2018 (“fiscal 2018”). Long-lived assets in Europe were approximately five percent of total long-lived assets of the Company as of both May 31, 2020 and May 31, 2019, respectively.

Within Paychex’s HCM solutions, Paychex offers a comprehensive portfolio of services and products that allow its clients to meet their diverse HR and payroll needs. Clients can select services on an á la carte basis or as part of various product bundles. Paychex’s offerings often leverage the information gathered in its base payroll processing service, allowing the Company to provide comprehensive outsourcing services covering the HCM spectrum.

Paychex supports its small business clients utilizing its proprietary, robust, software-as-a-service (“SaaS”) Paychex Flex® platform and the Company’s SurePayroll® SaaS-based products. Both products allow users to process payroll when they want, how they want, and on any device (desktop, tablet, and mobile phone). Paychex’s mid-market clients generally have more complex payroll and employee benefit needs. However, in the current environment of increasing regulations, the Company believes the needs for HR outsourcing solutions have been moving down-market. Any of the Company’s clients on Paychex Flex can opt for the integrated suite of HCM solutions, which allows clients to choose the services and software that will meet the needs of their business.

Total revenue is comprised of service revenue and interest on funds held for clients. Service revenue is comprised primarily of the fees earned on the portfolio of HCM services, which include payroll processing, complementary HR management and administration services, PEO (“Professional Employer Organization”) solutions, and insurance agency commissions. Refer to Note B of this Item 8 for further discussion of the Company’s service revenue.

Basis of presentation: The consolidated financial statements include the accounts of Paychex, Inc. and its wholly owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. Certain disclosures are reported as zero balances due to rounding.

Effective June 1, 2019, the Company adopted the requirements of ASU No. 2016-02, “Leases (Topic 842)” (“ASU No. 2016-02”) as discussed in the “Recently adopted accounting pronouncements” section of this Item 8. All amounts and disclosures set forth in this Annual Report on Form 10-K (the “Form 10-K”) have been updated to comply with the new standard.

Reclassifications: Certain prior year amounts have been reclassified to conform to the current period presentation. These reclassifications had no effect on reported consolidated earnings.

Subsequent Events: On July 9, 2020, Paychex announced that its Board of Directors (the “Board”) declared a regular quarterly dividend of $0.62 per share payable August 27, 2020 to stockholders of record as of August 3, 2020.

Cash and cash equivalents: Cash and cash equivalents consist of available cash, money market securities, and other investments with a maturity of 90 days or less at acquisition. Cash and cash equivalents include funds collected from the Company’s PEO clients for the payment of worksite employee payrolls and associated payroll taxes. Funds of $136.4 million and $178.8 million collected from PEO clients are included in cash and cash equivalents on the Company’s Consolidated Balance Sheets as of May 31, 2020 and May 31, 2019, respectively.

Restricted cash and restricted cash equivalents: Restricted cash and restricted cash equivalents are recorded at fair value, and consist of cash and cash equivalents, primarily money market securities, included in funds held for clients and cash that is restricted in use for certain payment of workers’ compensation policies.

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Accounts receivable, net of allowance for doubtful accounts: Accounts receivable balances are shown on the Consolidated Balance Sheets net of the allowance for doubtful accounts of $12.5 million and $7.5 million as of May 31, 2020 and May 31, 2019, respectively. These balances include: trade receivables for services provided to clients and purchased receivables related to payroll funding arrangements with clients in the temporary staffing industry. Trade receivables were $84.7 million and $94.5 million as of May 31, 2020 and May 31, 2019, respectively. Purchased receivables were $311.9 million and $333.5 million as of May 31, 2020 and May 31, 2019, respectively. Accounts receivable are written off and charged against the allowance for doubtful accounts when the Company has exhausted all collection efforts without success. No single client had a material impact on total accounts receivable, service revenue, or results of operations.

PEO unbilled receivables, net of advance collections: The Company recognizes a liability for worksite employee gross wages and related payroll tax liabilities at the end of the period in which the worksite employee performs work, and where it assumes, under state regulations, the obligation for the payment of payroll and payroll tax liabilities. The estimated payroll and payroll tax liabilities are recorded in accrued worksite employee compensation and related items on the Company’s Consolidated Balance Sheets. The associated unbilled receivables, including estimated revenues, offset by advance collections from clients, are recorded as PEO unbilled receivables, net of advance collections on the Company’s Consolidated Balance Sheets. As of May 31, 2020 and May 31, 2019, advance collections included in PEO unbilled receivables, net of advance collections were $6.1 million and $4.2 million, respectively.

Funds held for clients and corporate investments: Marketable securities included in funds held for clients and corporate investments consist primarily of securities classified as available-for-sale and are recorded at fair value obtained from an independent pricing service. The funds held for clients portfolio also includes cash and cash equivalents such as money market securities. Unrealized gains and losses, net of applicable income taxes, are reported as other comprehensive income in the Consolidated Statements of Income and Comprehensive Income. Realized gains and losses on the sale of available-for-sale securities are determined by specific identification of the cost basis of each security. On the Consolidated Statements of Income and Comprehensive Income, realized gains and losses from the funds held for clients portfolio and corporate investments portfolio are included in interest on funds held for clients and other (expense)/income, net, respectively.

Concentrations: Substantially all of the Company’s deposited cash is maintained at large well-capitalized (as defined by their regulators) financial institutions. These deposits may exceed the amount of any insurance provided. All of the Company’s deliverable securities, primarily municipal bond securities, are held in custody with certain of the aforementioned financial institutions, for which that institution bears the risk of custodial loss. Non-deliverable securities are primarily time deposits and money market funds.

Property and equipment, net of accumulated depreciation: Property and equipment is stated at cost, less accumulated depreciation. Depreciation is based on the estimated useful lives of property and equipment using the straight-line method. The estimated useful lives of depreciable assets are generally as follows:

Category		Depreciable life
Buildings and improvements		10 to 35 years or the remaining life, whichever is shorter
Data processing equipment		Three to four years
Furniture, fixtures, and equipment		Two to seven years
Leasehold improvements		10 years or the life of the lease, whichever is shorter

Normal and recurring repairs and maintenance costs are charged to expense as incurred. The Company reviews the carrying value of property and equipment for impairment when events or changes in circumstances indicate that the carrying value of such assets may not be recoverable.

Software development and enhancements: Expenditures for software purchases and software developed for internal use are capitalized and depreciated on a straight-line basis over the estimated useful lives, which are generally three to five years. Software developed as part of the Company’s main processing platform is depreciated over 12 years. For software developed for internal use, certain costs are capitalized, including external direct costs of materials and services associated with developing or obtaining the software, and payroll and payroll-related costs for employees who are directly associated with internal-use software projects. Capitalization of these costs ceases no later than the point at which the project is substantially complete and ready for its intended use. Costs associated with preliminary project stage activities, training, maintenance, and other post-implementation stage activities are expensed as incurred. The carrying value of software and development costs is reviewed for impairment when events or changes in circumstances indicate that the carrying value of such assets may not be recoverable.

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Goodwill and other intangible assets, net of accumulated amortization: The Company had $1.8 billion of goodwill as of both May 31, 2020 and May 31, 2019, respectively. Goodwill is not amortized, but instead is tested for impairment on an annual basis and between annual tests if an event occurs or circumstances change in a way to indicate that there has been a potential decline in the fair value of a reporting unit. The Company performs its annual impairment testing in its fiscal fourth quarter. A qualitative analysis was performed for all reporting units in the fiscal years 2020, 2019, and 2018 to determine if it is more-likely-than-not that the fair value of the reporting units had declined below their carrying value. The qualitative assessment considered various financial, macroeconomic, industry, and reporting unit specific qualitative factors. Based on the results of the Company’s testing, no impairment loss was recognized in the results of operations for the fiscal years 2020, 2019, or 2018. Subsequent to the latest review, there have been no events or circumstances that indicate any potential impairment of the Company’s goodwill balance.

Intangible assets are comprised primarily of client list acquisitions and are reported net of accumulated amortization on the Consolidated Balance Sheets. Intangible assets are amortized over periods generally ranging from three to 12 years. Certain client lists use an accelerated method, while other intangible assets use the straight-line method of amortization. In addition, the Company has intangible assets with indefinite useful lives, which are tested for impairment on an annual basis and between annual tests if an event occurs or circumstances change in a way to indicate that the carrying value may not be recoverable. The Company has determined there is no impairment of intangible assets with indefinite useful lives for fiscal 2020, 2019, or 2018.

Impairment of Long-Lived Assets: Long-lived assets, including intangible assets with finite lives and operating lease right-of-use assets, are reviewed for impairment when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized for the amount by which the carrying amount of the asset exceeds the estimated fair value of the asset. The Company has determined that there was no impairment of long-lived assets for the fiscal years 2020, 2019, or 2018.

Foreign Currency**:** The financial statements of the Company’s foreign subsidiaries have been translated into U.S. dollars. Assets and liabilities are translated into U.S. dollars at period-end exchange rates. Income and expenses are translated at the average exchange rate for the reporting period. The resulting non-cash foreign currency translation adjustments, representing unrealized gains or losses, are included in Consolidated Statements of Stockholders’ Equity as a component of accumulated other comprehensive income/(loss), net of tax. The Company did not have any material realized gains or losses resulting from foreign exchange transactions during the fiscal years 2020, 2019, or 2018.

Revenue recognition: Revenues are primarily attributable to fees for providing services as well as investment income earned on funds held for clients. Fees associated with services are recognized in the period services are rendered and earned under service arrangements with clients where service fees are fixed or determinable and collectability is reasonably assured. The Company’s service revenue is largely attributable to processing services where the fee is based on a fixed amount per processing period or a fixed amount per processing period plus a fee per employee or transaction processed. Insurance Solutions revenues are recognized when commissions are earned on premiums billed and collected. Fees earned for funding of payrolls for temporary staffing agency clients via the purchase of accounts receivable are based on a percentage of funding amounts as specified in the client contract. These fees are then recognized over the average collection period of 35 to 45 days. The revenue earned from delivery service for the distribution of certain client payroll checks and reports is included in service revenue, and the costs for the delivery are included in cost of service revenue on the Consolidated Statements of Income and Comprehensive Income.

The Company receives advance payments for set-up fees from its clients. Advance payments received for certain of the Company’s service offerings for set-up fees are considered a material right. Therefore, the Company defers the revenue associated with these advance payments, recognizing the revenue and related expenses over the expected period to which the material right exists.

PEO Solutions revenue is included in service revenue and is reported net of certain pass-through costs billed and incurred, which include payroll wages, payroll taxes, including federal and state unemployment insurance, and certain health insurance benefit premiums, primarily costs related to the Company’s guaranteed cost benefit plans. Direct costs related to workers’ compensation and certain benefit plans where the Company retains risk are recognized as cost of service revenue rather than as a reduction in service revenue. Refer to Note B of this Item 8 for further discussion of the PEO pass-through costs.

Interest on funds held for clients is earned primarily on funds that are collected from clients before due dates for payroll tax administration services and for employee payment services and invested until remittance to the applicable tax or regulatory agencies or client employees. The interest earned on these funds is included in total revenue on the Consolidated Statements of Income and Comprehensive Income because the collecting, holding, and remitting of these funds are components of providing these services.

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Assets Recognized from the Costs to Obtain and Fulfill Contracts: The Company recognizes an asset for the incremental costs of obtaining a contract with a client if it is expected that the economic benefit and amortization period will be longer than one year. Incremental costs of obtaining a contract include only those costs that are directly related to the acquisition of new contracts and that would not have been incurred if the contract had not been obtained. The Company does not incur incremental costs to obtain a contract renewal. The Company determined that certain sales commissions and bonuses, including related fringe benefits, meet the capitalization criteria under Accounting Standards Codification (“ASC”) Subtopic 340-40, “Other Assets and Deferred Costs: Contracts with Customers” (“ASC 340-40”). The Company also recognizes an asset for the costs to fulfill a contract with a client if the costs are specifically identifiable, generate or enhance resources used to satisfy future performance obligations, and are expected to be recovered. The Company determined that substantially all costs related to implementation activities are administrative in nature and meet the capitalization criteria under ASC 340-40. These capitalized costs to fulfill a contract principally relate to upfront direct costs that are expected to be recovered and enhance the Company’s ability to satisfy future performance obligations.

The assets related to both costs to obtain and costs to fulfill contracts with clients are capitalized and amortized using an accelerated method over an eight-year life to closely align with the pattern of client attrition over the estimated life of the client relationship. The Company regularly reviews its deferred costs for potential impairment and did not recognize an impairment loss during the fiscal years ended May 31, 2020 or May 31, 2019.

Cost of service revenue: The Company’s costs and expenses applicable to total service revenue represent direct costs associated with providing HR, payroll, benefits, and insurance services. This includes labor-related costs, direct costs related to certain PEO offerings, postage and delivery costs, facility costs, professional services, and depreciation and amortization of property and equipment, including internally developed software.

Selling, general and administrative expenses: The Company’s selling, general and administrative expenses represent labor-related costs, including amortization of deferred sales commissions and bonuses, corporate asset depreciation and amortization, marketing, and other general and administrative expenses incurred by the Company.

PEO insurance reserves: As part of the PEO solution, the Company offers workers’ compensation insurance and health insurance to clients for the benefit of client employees. Workers’ compensation insurance is primarily provided under fully insured high deductible workers’ compensation insurance policies. Workers’ compensation insurance reserves are established to provide for the estimated costs of paying claims up to per occurrence liability limits. These reserves include estimates of certain expenses associated with processing and settling these claims. In establishing the PEO workers’ compensation insurance reserves, the Company uses an independent actuarial estimate of undiscounted future cash payments that would be made to settle claims. The evaluation, review and determination of estimated ultimate losses by the Company’s appointed actuary are based on actuarial methods and assumptions. The estimated ultimate losses are primarily based upon estimated loss development factors, and other factors such as the nature of employees’ job responsibilities, the historical frequency and severity of workers’ compensation claims, and an estimate of future cost trends. Each reporting period, changes in actuarial assumptions resulting from changes in actual claims experience and other trends are incorporated into our workers’ compensation claims cost estimates.

The Company’s maximum individual claims liability under its PEO workers’ compensation insurance policies was $1.0 million for fiscal 2020. For fiscal 2019, the Company’s maximum individual claims liability ranged from $0.5 million to $1.0 million under its PEO workers’ compensation insurance policies. As of May 31, 2020 and May 31, 2019, the Company had recorded current liabilities of $72.3 million and $71.1 million, respectively, and long-term liabilities of $101.3 million and $99.2 million, respectively, on its Consolidated Balance Sheets for workers’ compensation insurance reserves.

With respect to PEO health insurance, the Company offers various health insurance plans that take the form of either fully insured guaranteed cost plans with various national insurance carriers or a fully insured minimum premium insurance arrangement with coverage provided through a single national carrier. In addition, the Company also provides self-insured dental and vision plans to certain of its PEO clients. Under the minimum medical premium insurance arrangement and self-insured dental and vision plans, the Company’s health benefits insurance reserves are established to provide for the payment of claims in accordance with its service contract with the carrier. The claims liability includes estimates for reported losses, plus amounts for those claims incurred but not reported, and estimates of certain expenses associated with processing and settling the claims. The Company’s maximum individual claims liability was $0.3 million under its policies during both fiscal 2020 and fiscal 2019. Amounts accrued related to the health insurance and dental and vision plan reserves were $36.7 million and $25.4 million as of May 31, 2020 and May 31, 2019, respectively. These amounts are included in current liabilities on the Consolidated Balance Sheets.

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Estimating the ultimate cost of future claims is an uncertain and complex process based upon historical loss experience and independent actuarial loss projections, and is subject to change due to multiple factors, including economic trends, changes in legal liability law, and damage awards, all of which could materially impact the reserves as reported in the consolidated financial statements. Accordingly, final claim settlements may vary from the present estimates, particularly with workers’ compensation insurance where those payments may not occur until well into the future. The Company regularly reviews the adequacy of its estimated insurance reserves. Adjustments to previously established reserves are reflected in the results of operations for the period in which the adjustment is identified. Such adjustments could be significant, reflecting any combination of new and adverse or favorable trends. Adjustments to previously established reserves were not material for the fiscal years 2020, 2019, or 2018.

Leases: At contract inception, the Company determines if the new contractual arrangement is a lease or contains a leasing arrangement. If a contract contains a lease, the Company evaluates whether it should be classified as an operating or a finance lease. Currently, all of the Company’s leases have been classified as operating leases. Upon modification of the contract, the Company will reassess to determine if a contract is or contains a leasing arrangement.

The Company records lease liabilities based on the future estimated cash payments discounted over the lease term, defined as the non-cancellable time period of the lease, together with all the following:

periods covered by an option to extend the lease if the Company is reasonably certain to exercise the extension option; and

periods covered by an option to terminate the lease if the Company is reasonably certain not to exercise the termination option.

Leases may also include options to terminate the arrangement or options to purchase the underlying lease property. The Company does not separate lease and non-lease components of contracts. Lease components provide the Company with the right to use an identified asset, which consist of the Company’s real estate properties and office equipment. Non-lease components consist primarily of maintenance services.

As an implicit discount rate is not readily determinable in the Company’s lease agreements, the Company uses its estimated secured incremental borrowing rate based on the information available at the lease commencement date in determining the present value of future lease payments. The incremental borrowing rate is determined using a portfolio approach utilizing publicly available information related to our unsecured borrowing rates. For certain leases with original terms of 12 months or less, the Company recognizes lease expense as incurred and does not recognize any lease liabilities. Short-term and long-term portions of operating lease liabilities are classified as other current liabilities and operating lease liabilities, respectively, in the Company’s Consolidated Balance Sheets.

A right-of-use (“ROU”) asset is measured as the amount of the lease liability with adjustments, if applicable, for lease incentives, initial direct costs incurred by the Company, and lease prepayments made prior to or at lease commencement. ROU assets are classified as operating lease right-of-use assets, net of accumulated amortization, on the Company’s Consolidated Balance Sheets. The Company evaluates the carrying value of ROU assets if there are indicators of potential impairment, and performs the analysis concurrent with the review of the recoverability of the related asset group. If the carrying value of the asset group is determined to not be fully recoverable and is in excess of its estimated fair value, the Company will record an impairment loss in its Consolidated Statements of Income and Comprehensive Income. The Company did not recognize an impairment loss during fiscal 2020.

Fixed lease expense payments are recognized on a straight-line basis over the lease term. Variable lease payments vary because of changes in facts or circumstances occurring after the commencement date, other than the passage of time, and are often due to changes in an external market rate or the value of an index (e.g. Consumer Price Index). Variable lease payments are expensed as incurred in the Company’s Consolidated Statements of Income and Comprehensive Income.

Stock-based compensation costs: All stock-based awards to employees are recognized as compensation costs in the consolidated financial statements based on their fair values measured as of the date of grant. The Company estimates the fair value of stock option grants using a Black-Scholes option pricing model. This model requires various assumptions as inputs including expected volatility of the Paychex stock price and expected option life. Volatility is estimated based on a combination of historical volatility, using stock prices over a period equal to the expected option life, and implied market volatility. Expected option life is estimated based on historical exercise behavior. The Company periodically reassesses its assumptions as well as its choice of valuation model. The Company will reconsider use of this model if additional information becomes available in the future indicating that another model would provide a more accurate estimate of fair value, or if characteristics of future grants would warrant such a change.

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The fair value of stock awards is determined based on the stock price at the date of grant. For grants that do not accrue dividends or dividend equivalents, the fair value is the stock price reduced by the present value of estimated dividends over the vesting period or performance period.

The Company’s policy is to estimate forfeitures and only record compensation costs for those awards that are expected to vest. The assumptions for forfeitures are determined based on type of award and historical experience. Forfeiture assumptions are adjusted at the point in time a significant change is identified, with any adjustment recorded in the period of change, and the final adjustment at the end of the requisite service period to equal actual forfeitures.

The assumptions of volatility, expected option life, and forfeitures all require significant judgment and are subject to change in the future due to factors such as employee exercise behavior, stock price trends, and changes to type or provisions of stock-based awards. Any material change in one or more of these assumptions could have an impact on the estimated fair value of a future award.

Refer to Note F of this Item 8 for further discussion of the Company’s stock-based compensation plans.

Income taxes: The Company accounts for deferred taxes by recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the consolidated financial statements or tax returns. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities, using enacted tax rates in effect for the fiscal year in which the differences are expected to reverse.

The Company also maintains a reserve for uncertain tax positions. The Company evaluates tax positions taken or expected to be taken in a tax return for recognition in its consolidated financial statements. Prior to recording the related tax benefit in the consolidated financial statements, the Company must conclude that tax positions will be more-likely-than-not to be sustained, assuming those positions will be examined by taxing authorities with full knowledge of all relevant information. The benefit recognized in the consolidated financial statements is the amount the Company expects to realize after examination by taxing authorities. If a tax position drops below the more-likely-than-not standard, the benefit can no longer be recognized. Assumptions, judgment, and the use of estimates are required in determining if the more-likely-than-not standard has been met when developing the provision for income taxes and in determining the expected benefit. A change in the assessment of the more-likely-than-not standard could materially impact the Company’s results of operations or financial position. The Company’s reserve for uncertain tax positions, including interest and net of federal benefits, was $26.5 million as of May 31, 2020 and $21.6 million as of May 31, 2019. Refer to Note L of this Item 8 for further discussion of the Company’s reserve for uncertain tax positions.

Use of estimates**:** The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates, judgments, and assumptions that affect reported amounts of assets, liabilities, revenue, and expenses during the reporting period. Actual amounts and results could differ from these estimates.

Recently adopted accounting pronouncements: In February 2016, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2016-02. This guidance, as amended by subsequent ASUs on the topic, improves transparency and comparability among companies by recognizing lease assets and lease liabilities on the balance sheet and by disclosing key information about leasing arrangements. The Company adopted the requirements of ASU No. 2016-02 on June 1, 2019, utilizing the alternative transition method provided by the FASB in ASU No. 2018-11, “Leases (Topic 842): Targeted Improvements,” and did not restate comparative periods as permitted under the standard.

The adoption of ASU No. 2016-02 increased ROU lease-related assets and liabilities by $116.4 million and resulted in ROU asset and lease liability balances of $116.4 million and $135.3 million, respectively, on the Company’s Consolidated Balance Sheets as of June 1, 2019. The difference between the ROU assets and lease liabilities relates to $18.9 million of unamortized landlord allowances and lease incentives. The Company has updated its control framework for new internal controls and made changes to existing internal controls related to the new standard. The adoption of this standard did not have an impact on the financial covenants set forth in the Company’s credit facilities and long-term borrowing agreement. Refer to Note I of this Item 8 for additional information on the new standard.

As part of the adoption of ASU No. 2016-02, the Company elected the following practical expedients: 1) lease vs. non-lease components relating to the real estate asset class; 2) the short-term lease exemption; and 3) the package of practical expedients, which permits the Company to not reassess prior conclusions about lease identification, lease classification, and initial direct costs under the new standard. In addition, the Company elected not to adopt the practical expedient related to hindsight.

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In June 2019, the Company also adopted the following ASUs, none of which had a material impact on its consolidated financial statements**:**

ASU No. 2018-07, “Compensation – Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting;”

ASU No. 2018-02, “Income Statement – Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income;” and

ASU No. 2017-08, “Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities.”

Recently issued accounting pronouncements: In March 2020, the FASB issued ASU No. 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting.” ASU No. 2020-04 provides guidance on optional expedients for a limited time to ease the operational burden in accounting for (or recognizing the effects of) reference rate reform (LIBOR) on financial reporting. This guidance is effective upon the ASUs issuance on March 12, 2020 and companies may elect to apply the amendments prospectively through December 31, 2022. The Company’s credit facilities already contain comparable alternative reference rates that would automatically take effect upon the LIBOR phase out, and it is also reviewing its commercial contracts that may utilize LIBOR as a reference rate. The Company is currently evaluating the potential effects of this guidance on its consolidated financial statements.

In December 2019, the FASB issued ASU No. 2019-12 “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.” ASU No. 2019-12 is intended to simplify various aspects related to accounting for income taxes, eliminates certain exceptions to the general principles in ASC Topic 740 related to intra-period tax allocation, simplifies when companies recognize deferred taxes in an interim period, and clarifies certain aspects of the current guidance to promote consistent application. This guidance is effective for public business entities for fiscal years beginning after December 15, 2020, and for interim periods within those fiscal years, with early adoption permitted. This guidance is applicable to the Company’s fiscal year beginning June 1, 2021. The Company is currently evaluating the potential effects of this guidance on its consolidated financial statements.

In November 2019, the FASB issued ASU No. 2019-08 “Compensation – Stock Compensation (Topic 718) and Revenue from Contracts with Customers (Topic 606): Codification Improvements – Share-Based Consideration Payable to a Customer.” ASU No. 2019-08 amends and clarifies ASU No. 2018-07, which was adopted by the Company on June 1, 2019, to require that an entity measure and classify share-based payment awards granted to a customer by applying the guidance in Topic 718. For entities that have already adopted the amendments in ASU No. 2018-07, the amendments in this ASU are effective for fiscal years beginning after December 15, 2019, and for interim periods within those fiscal years, with early adoption permitted. This guidance is applicable to the Company’s fiscal year beginning June 1, 2020. The adoption of this guidance will not have a material impact on its consolidated financial statements.

In April 2019, the FASB issued ASU No. 2019-04 “Codification Improvements to Topic 326, Financial Instruments – Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments.” ASU No. 2019-04 was issued as part of the FASB’s ongoing project to improve upon its ASC, and to clarify and improve areas of guidance related to recently issued standards on credit losses, hedging, and recognition and measurement. This guidance contains several effective dates but is applicable to the Company’s fiscal year beginning June 1, 2020. The adoption of this guidance will not have a material impact on its consolidated financial statements.

In November 2018, the FASB issued ASU No. 2018-18, “Collaborative Arrangements (Topic 808): Clarifying the Interaction between Topic 808 and Topic 606.” ASU No. 2018-18 was issued to resolve the diversity in practice concerning the manner in which entities account for transactions based on their assessment of the economics of a collaborative arrangement. This guidance is effective for public business entities for fiscal years beginning after December 15, 2019, and for interim periods within those fiscal years, with early adoption permitted. This guidance is applicable to the Company’s fiscal year beginning June 1, 2020. The adoption of this guidance will not have a material impact on its consolidated financial statements.

In August 2018, the FASB issued ASU No. 2018-15, “Intangibles – Goodwill and Other – Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract (a consensus of the FASB Emerging Issues Task Force).” ASU No. 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). This guidance is effective for public business entities for fiscal years beginning after December 15, 2019, and for interim periods within those fiscal years, with early adoption permitted. This guidance is applicable to the Company’s fiscal year beginning June 1, 2020. The adoption of this guidance will not have a material impact on its consolidated financial statements.

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In August 2018, the FASB issued ASU No. 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement.” ASU No. 2018-13 modifies the disclosure requirements in Topic 820, “Fair Value Measurement,” based on the FASB Concepts Statement, “Conceptual Framework for Financial Reporting – Chapter 8: Notes to Financial Statements,” including consideration of costs and benefits. This guidance is effective for all entities for fiscal years beginning after December 15, 2019, and for interim periods within those fiscal years, with early adoption permitted. This guidance is applicable to the Company’s fiscal year beginning June 1, 2020. The adoption of this guidance will not have a material impact on its consolidated financial statements.

In January 2017, the FASB issued ASU No. 2017-04, “Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairments.” ASU No. 2017-04 establishes a one-step process for testing goodwill for a decrease in value, requiring a goodwill impairment loss to be measured as the excess of the reporting unit’s carrying amount over its fair value. The guidance eliminates the second step of the current two-step process that requires the impairment to be measured as the difference between the implied value of a reporting unit’s goodwill with the goodwill’s carrying amount. This guidance is effective for public business entities that are U.S. Securities and Exchange Commission (“SEC”) filers for its annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual impairment tests after January 1, 2017. This guidance is applicable to the Company’s fiscal year beginning June 1, 2020. The Company has completed its assessment of the adoption of this guidance, including changes to internal controls, and it will not have a material impact on its consolidated financial statements.

In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” ASU No. 2016-13, as amended by subsequent ASUs on the topic and commonly referred to as the current expected credit loss (“CECL”) model, requires an organization to measure all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported financial assets. It also requires credit losses related to available-for-sale debt securities to be recorded through an allowance for credit losses. This guidance is effective for public business entities that are U.S. SEC filers for annual periods beginning after December 15, 2019, and for interim periods within those fiscal years, with early adoption permitted. This guidance is applicable to the Company’s fiscal year beginning June 1, 2020 and will be adopted using the modified retrospective approach through a cumulative-effect adjustment to retained earnings.

The Company’s CECL implementation group has completed its evaluation, testing, and validation of the necessary CECL model changes to business processes, systems and controls to support the adoption of the new guidance and record expected credit losses to its accounts receivable, PEO unbilled receivables, and available-for-sale (“AFS”) debt securities as of June 1, 2020. The ultimate effect of CECL on our credit losses will depend on the size, composition and credit quality of the Company’s accounts receivable and investment portfolios, economic conditions at and subsequent to the date of adoption, as well as any refinements to our model, methodology and other key assumptions. The adoption of this guidance will not have a material impact on its consolidated financial statements.

Other recent authoritative guidance issued by the FASB (including technical corrections to the FASB ASC), the American Institute of Certified Public Accountants, and the SEC did not, or are not expected to have a material impact on the Company’s consolidated financial statements.

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Note B — Service Revenue

Service revenue is primarily attributable to fees for providing services to the Company’s clients and is recognized when control of the promised services is transferred to its clients, in an amount that reflects the consideration it expects to receive in exchange for such services. The Company’s service revenue is largely attributable to processing services where the fee is based on a fixed amount per processing period or a fixed amount per processing period plus a fee per employee or transaction processed. Insurance Solutions revenue is recognized when commissions are earned on premiums billed and collected. The Company’s contracts generally do not contain specified contract periods and may be terminated by either party with 30-days’ notice of termination. Sales and other applicable non-payroll related taxes are excluded from service revenue.

Based upon similar operational and economic characteristics, the Company’s service revenue is disaggregated by Management Solutions and PEO and Insurance Solutions as reported in the Company’s Consolidated Statements of Income and Comprehensive Income. The Company believes these revenue categories depict how the nature, amount, timing, and uncertainty of its revenue and cash flows are affected by economic factors.

Management Solutions Revenue

Management Solutions revenue is primarily derived from the Company’s payroll processing, payroll-related ancillary services, and HR outsourcing solutions. Clients can select services on an á la carte basis or as part of various product bundles. The Company’s offerings often leverage the information gathered in its base payroll processing service, allowing it to provide comprehensive outsourcing services covering the HCM spectrum. Management Solutions revenue is generally recognized over time as services are performed and the customer simultaneously receives and controls the benefits from these services.

Revenue earned from delivery service for the distribution of certain client payroll checks and reports is also included in Management Solutions revenue in the Company’s Consolidated Statements of Income and Comprehensive Income. Delivery service revenue is recognized at a point in time following the delivery of payroll checks, reports, quarter-end packages, and tax returns to the Company’s clients.

PEO and Insurance Solutions Revenue

PEO solutions are sold through the Company’s registered and licensed subsidiaries, Paychex Business Solutions, LLC, Oasis Outsourcing Group Holdings, L.P. (“Oasis”), and HR Outsourcing Holdings, Inc. (“HROi”), and offer businesses a combined package of services that includes payroll, employer compliance, HR and employee benefits administration, risk management outsourcing, and the on-site availability of a professionally trained HR representative, among other services. The Company serves as a co-employer of its clients’ employees, offers health insurance coverage to client employees, and assumes the risks and rewards of workers’ compensation insurance and certain health insurance benefit offerings. PEO Solutions revenue is recognized over time as the services are performed and the customer simultaneously receives and controls the benefits from these services. PEO Solutions revenue is reported net of certain pass-through costs billed and incurred, which include payroll wages, payroll taxes, including federal and state unemployment insurance, and certain health insurance benefit premiums, primarily costs related to the Company’s guaranteed cost benefit plans. For guaranteed cost benefit plans where the Company does not retain risk, revenues are recorded net of the premiums paid to the insurance carrier. For workers’ compensation and certain benefit plans where the Company retains risk, revenues and costs are recorded on a gross basis.

PEO pass-through costs netted within the PEO and Insurance Solutions revenue are as follows:

			Year ended May 31,
In billions		2020			2019			2018
Payroll wages and payroll taxes		$	20.5		$	14.5		$	7.7
In millions
State unemployment insurance (included in payroll wages and payroll taxes)		$	85.7		$	82.3		$	47.5
Guaranteed cost benefit plans		$	647.0		$	451.8		$	274.2

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Insurance solutions are sold through the Company’s licensed insurance agency, Paychex Insurance Agency, Inc., which provides insurance through a variety of carriers, allowing companies to expand their employee benefit offerings at an affordable cost. Insurance offerings include property and casualty coverage such as workers’ compensation, business-owner policies, and commercial auto, and health and benefits coverage, including health, dental, vision, and life. Insurance Solutions revenue reflects commissions earned on insurance services premiums billed and is recognized over time as services are performed and the customer simultaneously receives and controls the benefits from these services.

Contract Balances

The timing of revenue recognition for Management Solutions and PEO and Insurance Solutions is consistent with the invoicing of clients as they both occur during the respective client payroll period for which the services are provided. Therefore, the Company does not recognize a contract asset or liability resulting from the timing of revenue recognition and invoicing.

Payments received for certain of the Company’s service offerings for set-up fees are considered a material right. Therefore, the Company defers revenue associated with these performance obligations, which exceed one year, and subsequently recognizes these as future services are provided, over approximately three years to four years.

Changes in deferred revenue related to a material right that exceed one year were as follows:

		Year ended			Year ended
In millions		May 31, 2020			May 31, 2019
Balance, beginning of period		$	45.7		$	46.4
Deferral of revenue			24.7			27.6
Recognition of unearned revenue			(27.8)			(28.3)
Balance, end of period		$	42.6		$	45.7

Deferred revenue related to a material right is reported in the deferred revenue and other long-term liabilities line items on the Company’s Consolidated Balance Sheets. The Company expects to recognize $21.6 million of deferred revenue related to a material right during its fiscal year ending May 31, 2021 and $21.0 million of such deferred revenue thereafter.

Assets Recognized from the Costs to Obtain and Fulfill Contracts

The Company recognizes an asset for the incremental costs of obtaining a contract with a client if it is expected that the economic benefit and amortization period will be longer than one year. The Company also recognizes an asset for the costs to fulfill a contract with a client if the costs are specifically identifiable, generate or enhance resources used to satisfy future performance obligations, and are expected to be recovered. Deferred costs to obtain and fulfill contracts are reported in the prepaid expenses and other current assets and long-term deferred costs line items on the Company’s Consolidated Balance Sheets. Amortization expense related to costs to obtain and fulfill a contract are included in cost of service revenue and selling, general and administrative expenses in the Company’s Consolidated Statements of Income and Comprehensive Income. Refer to the Note A of this Item 8 for additional disclosures on our policies for assets recognized from the costs to obtain and fulfill contracts.

The Company regularly reviews its deferred costs for potential impairment and did not recognize an impairment loss during the fiscal years ended May 31, 2020 or May 31, 2019.

Changes in deferred costs to obtain and fulfill contracts were as follows:

		Year ended May 31, 2020
		Beginning			Capitalization						Ending
In millions		balance			of costs			Amortization			balance
Costs to obtain a contract		$	464.3		$	171.7		$	(162.4)		$	473.6
Costs to fulfill a contract		$	66.1		$	24.9		$	(23.7)		$	67.3

		Year ended May 31, 2019
		Beginning			Capitalization						Ending
In millions		balance			of costs			Amortization			balance
Costs to obtain a contract		$	455.0		$	166.5		$	(157.2)		$	464.3
Costs to fulfill a contract		$	65.4		$	23.7		$	(23.0)		$	66.1

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Note C — Basic and Diluted Earnings Per Share

Basic and diluted earnings per share were calculated as follows:

		Year ended May 31,
In millions, except per share amounts		2020			2019			2018
Basic earnings per share:
Net income		$	1,098.1		$	1,034.4		$	994.1
Weighted-average common shares outstanding			358.5			359.2			359.0
Basic earnings per share		$	3.06		$	2.88		$	2.77
Diluted earnings per share:
Net income		$	1,098.1		$	1,034.4		$	994.1
Weighted-average common shares outstanding			358.5			359.2			359.0
Dilutive effect of common share equivalents			2.5			2.6			2.5
Weighted-average common shares outstanding, assuming dilution			361.0			361.8			361.5
Diluted earnings per share		$	3.04		$	2.86		$	2.75
Weighted-average anti-dilutive common share equivalents			0.7			0.4			0.7

Weighted-average common share equivalents that had an anti-dilutive impact are excluded from the computation of diluted earnings per share.

In May 2019, the Company announced that its Board approved a program to repurchase up to $400.0 million of its common stock, with authorization expiring on May 31, 2022. During fiscal 2020, the Company repurchased 2.0 million shares for $171.9 million under this repurchase program. During fiscal 2019 and fiscal 2018, the Company repurchased 0.7 million shares for $56.9 million and 2.5 million shares for $143.1 million, respectively, under a previously authorized repurchase program. The purpose of these programs is to manage common stock dilution. All shares of common stock repurchased were retired.

Note D — Business Combinations

Effective December 20, 2018, the Company acquired Oasis. Upon closing, Oasis became a wholly owned subsidiary of the Company. Oasis is an industry leader in providing HR outsourcing services. The purchase price was $992.2 million, net of $262.3 million in cash acquired, including $132.1 million of restricted cash. The acquisition was financed through a combination of cash on hand and the issuance of long-term private placement debt totaling $800.0 million.

The results of operations for Oasis have been included in the Company’s Consolidated Statements of Income and Comprehensive Income since the date of acquisition. During fiscal 2019, Oasis contributed $163.7 million of total revenues and $5.1 million of operating income, including the impact of certain one-time charges related to the acquisition and integration of the Oasis business, in the Company’s consolidated results of operations. The Company incurred $5.3 million of acquisition and integration costs associated with Oasis during fiscal 2019, which was included within selling, general and administrative expenses in the Company’s Consolidated Statements of Income and Comprehensive Income.

The Company accounted for the acquisition as a business combination using the acquisition method of accounting in accordance with the FASB ASC Topic 805, “Business Combinations.” The acquired assets and liabilities of Oasis were recorded at their acquisition-date fair values and were consolidated with those of the Company as of the acquisition date. The purchase accounting was finalized during fiscal 2020.

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The following acquisition-date fair values were assigned to the acquired net assets (amounts in millions):

Cash and cash equivalents		$	130.2
Restricted cash			66.6
Corporate investments			8.6
Accounts receivable, net of allowance for doubtful accounts			10.7
PEO unbilled receivables, net of advance collections			209.8
Prepaid income taxes			4.8
Prepaid expenses and other current assets			6.0
Long-term restricted cash			65.5
Property and equipment			15.4
Intangible assets			310.9
Goodwill			976.6
Other long-term assets			1.8
Total Assets			1,806.9
Accounts payable			45.0
Accrued corporate compensation and related items			11.6
Accrued worksite employee compensation and related items			311.1
Other current liabilities			49.8
Deferred income taxes			55.6
Other long-term liabilities			79.3
Net Assets		$	1,254.5

The Company assigned $310.9 million to amortizable intangible assets, including customer lists, trade names and trademarks, and non-compete agreements, with a weighted-average amortization period of approximately 10 years. Goodwill in the amount of $976.6 million was recorded as a result of the acquisition, which is not tax-deductible. Goodwill is attributable to the future economic benefits the Company expects to achieve and expected synergies to be realized when combining the operations of this acquisition into our existing operations.

Pro Forma Financial Results (Unaudited): The following table summarizes the Company’s unaudited pro forma operating results for fiscal 2019 and fiscal 2018 as if the acquisition of Oasis had been consummated as of June 1, 2017. The following pro forma information does not include the impact of any costs incurred to integrate Oasis’ operations:

		Year ended May 31,
		2019			2018
Revenues		$	3,958.0		$	3,680.5
Net income		$	1,021.7		$	984.2

The unaudited pro forma operating results have been calculated after applying the Company’s accounting policies and include the acquisition of Oasis adjusted, net of tax, for depreciation and amortization expense resulting from the determination of fair values of the acquired property and equipment and amortizable intangible assets, the inclusion of interest expense related to borrowings used to fund the acquisition, the amortization of debt issuance costs related to the permanent financing of debt, the elimination of interest income related to available cash used for the acquisition, and the elimination of Oasis’ interest expense related to debt not assumed in the acquisition. In addition, the net income above for the fiscal year ended May 31, 2018 includes a non-recurring one-time net tax benefit for the revaluation of net deferred tax liabilities as a result of the Tax Cuts and Jobs Act (the “Tax Act”). Since the pro forma financial results assume the acquisition was consummated on June 1, 2017, the unaudited pro forma operating results for fiscal 2019 excluded $2.7 million ($2.0 million, net of tax) of costs incurred by the Company related to the acquisition of Oasis. The unaudited pro forma operating results for fiscal 2018 included $2.7 million ($1.7 million, net of tax) of costs incurred by the Company related to the acquisition of Oasis.

Oasis’ fiscal year end was the Sunday closest to the calendar year end. Since Oasis and the Company had different fiscal year end dates, the unaudited pro forma operating results were prepared based on comparable periods.

The pro forma financial information does not purport to be indicative of the results that would have been obtained had the transactions been completed as of June 1, 2017 for the periods presented and are not intended to be a projection of future results or trends.

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Effective February 28, 2018, the Company acquired Lessor Group (“Lessor”). Upon closing, Lessor became a wholly owned subsidiary of the Company. Lessor is a market-leading provider of payroll and HCM software solutions headquartered in Denmark and serving clients in Northern Europe. The purchase price was $162.5 million, net of $13.4 million in cash acquired. Goodwill in the amount of $112.3 million was recorded as a result of the acquisition, which is not tax-deductible.

Effective August 18, 2017, the Company acquired HROi and all of its operating subsidiaries. HROi is a national PEO that provides HR solutions to small- and medium-sized businesses in more than 35 states. The acquisition expands the Company’s presence in the PEO industry. The purchase price was $75.4 million and was comprised of $42.2 million of cash plus $33.2 million issued in the form of Paychex common stock. Goodwill in the amount of $51.1 million was recorded as a result of the acquisition, which is not tax-deductible.

The financial results of Lessor and HROi are included in the Company’s consolidated financial statements from the respective dates of acquisition. Subsequent adjustments made to preliminary opening balance sheet amounts before finalization for these acquisitions were immaterial. The Company concluded that these acquisitions were not material to its results of operations and financial position. Therefore, pro forma financial information has been excluded.

Note E — Other (Expense)/Income, Net

Other (expense)/income, net, consisted of the following items:

		Year ended May 31,
In millions		2020			2019			2018
Interest income on corporate investments		$	12.3		$	13.3		$	11.9
Interest expense			(38.8)			(17.6)			(3.9)
Other			3.1			1.0			0.6
Other (expense)/income, net		$	(23.4)		$	(3.3)		$	8.6

**Note F — Stock-**Based Compensation Plans

The Paychex, Inc. 2002 Stock Incentive Plan, as amended and restated effective on October 14, 2015 (the “2002 Plan”), authorizes grants of up to 44.1 million shares of the Company’s common stock. As of May 31, 2020, there were 17.3 million shares available for future grants under the 2002 Plan.

All stock-based awards to employees are recognized as compensation costs in the consolidated financial statements based on their fair values measured as of the date of grant. These costs are recognized as an expense in the Consolidated Statements of Income and Comprehensive Income on a straight-line basis over the requisite service period and an increase in additional paid-in capital.

Stock-based compensation expense was $47.4 million, $46.2 million, and $44.6 million for fiscal years 2020, 2019, and 2018, respectively. Additional stock-based compensation expense was recognized in fiscal 2018 when the Company decided to maximize its tax benefit by accelerating the vesting of restricted stock units (“RSUs”) into fiscal 2018 that would have otherwise vested in August 2018. Related income tax benefits recognized were $9.0 million, $8.9 million, and $14.5 million for the respective fiscal years.

As of May 31, 2020, the total unrecognized compensation cost related to all unvested stock-based awards was $65.0 million and is expected to be recognized over a weighted-average period of 2.8 years.

Black-Scholes fair value assumptions: The fair value of stock option grants and performance-based stock option grants was estimated at the date of grant using a Black-Scholes option pricing model. The weighted-average assumptions used for valuation under the Black-Scholes option pricing model are as follows:

	Year ended May 31,
	2020				2019				2018
	Stock options
Risk-free interest rate		2.0	%			2.9	%			2.1	%
Dividend yield		3.3	%			3.5	%			3.4	%
Volatility factor		0.18				0.18				0.17
Expected option life in years		6.2				6.1				6.1
Weighted-average grant-date ‎ fair value of stock options granted (per share)	$	9.86			$	8.87			$	6.47

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					Year ended May 31,
					2019				2018
					Performance-based stock options
Risk-free interest rate						2.9	%			2.4	%
Dividend yield						3.5	%			3.3	%
Volatility factor						0.18				0.18
Expected option life in years						6.5				6.5
Weighted-average grant-date ‎ fair value of stock options granted (per share)					$	9.02			$	7.45

No performance-based stock options were granted during fiscal 2020.

Risk-free interest rates are yields for zero coupon U.S. Treasury notes maturing approximately at the end of the expected option life. The estimated volatility factor is based on a combination of historical volatility, using stock prices over a period equal to the expected option life, and implied market volatility. The expected option life is based on historical exercise behavior.

Stock options: Stock options entitle the holder to purchase, at the end of the vesting term, a specified number of shares of Paychex common stock at an exercise price per share equal to the closing market price of the common stock on the date of grant. All stock options have a contractual life of ten years from the date of the grant and a vesting schedule as established by the Board. The Company issues new shares of common stock to satisfy stock option exercises. Stock option grants to executives and outside directors are typically approved by the Board in July. Grants of stock options to executives vest one-third per annum. Grants to members of the Board vest after one year. Vesting is generally achieved on these dates with active employment or participation as a member of the Board on the date of vesting.

The following table summarizes stock option activity for fiscal 2020:

							Weighted-
				Weighted-			average
		Shares		average			remaining		Aggregate
		subject		exercise price			contractual		intrinsic
In millions, except per share amounts		to options		per share			term (years)		value**(1)**
Outstanding as of May 31, 2019		4.3		$	49.23
Granted		0.6		$	85.22
Exercised		(0.5)		$	44.24
Forfeited		—		$	72.17
Expired		—		$	33.34
Outstanding as of May 31, 2020		4.4		$	55.02		5.6		$	83.7
Exercisable as of May 31, 2020		3.1		$	46.73		4.5		$	78.1

(1)Total shares valued at the market price of the underlying stock as of May 31, 2020 less the exercise price.

Other information pertaining to stock option grants is as follows:

		Year ended May 31,
In millions		2020			2019			2018
Total intrinsic value of stock options exercised		$	22.0		$	25.7		$	9.1
Total grant-date fair value of stock options vested		$	5.0		$	4.3		$	4.0

RSUs: The Board grants RSUs to certain executive and non-executive employees. An RSU is an agreement to issue shares at the time of vesting with no associated exercise cost for the employee. For each unit granted, the holder will receive one share of Paychex common stock at the time of vesting. If the recipient does not vest in the shares due to leaving Paychex, all shares or units of RSUs, and any dividends accrued thereon, when applicable, will be forfeited and returned to the Company. The Company made a decision in fiscal 2018 to accelerate the vesting of the August 2018 tranche into fiscal 2018.

Time-based RSUs: Time-based RSUs granted to non-executives vest one-fifth per annum over five years, while those granted to executives vest one-third per annum over three years. Vesting is generally achieved on these dates with active employment. The fair value of time-based RSUs is equal to the closing market price of the underlying common stock as of the date of grant, adjusted for the present value of expected dividends over the vesting period. Time-based RSUs may, or may not, earn dividend equivalents depending on the terms of the specific grant.

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Performance-based RSUs: Performance-based RSUs primarily have a two-year performance period, after which the number of underlying RSUs earned will be determined based on achievement against pre-established performance targets. The RSUs earned are then subject to a one-year service period. Performance-based RSUs do not earn dividend equivalents during the performance period. The fair value of the RSUs is equal to the closing market price of the underlying common stock as of the date of grant, adjusted for the present value of expected dividends over the performance period.

The following table summarizes RSU activity for fiscal 2020:

				Weighted-					Weighted-
				average					average
		Time-		grant-date			Performance-		grant-date
		Based		fair value			based		fair value
In millions, except per share amounts		RSUs		per share			RSUs		per share
Nonvested as of May 31, 2019		1.5		$	53.45		—		$	—
Granted (1)		0.5		$	73.28		0.1		$	80.59
Vested		(0.5)		$	49.49		—		$	—
Forfeited		(0.1)		$	60.26		—		$	—
Nonvested as of May 31, 2020		1.4		$	61.60		0.1		$	80.59

(1)For performance-based RSUs, granted number assumes achievement of performance goals at target. Actual number of shares to be earned may differ from this amount.

Other information pertaining to RSUs is as follows:

		Year ended May 31,
In millions, except per share amounts		2020			2019			2018
Time-based RSUs:
Weighted-average grant-date fair value per share of RSUs granted		$	73.28		$	62.20		$	51.15
Weighted-average remaining vesting period (years)			2.9			2.9			3.2
Total intrinsic value of RSUs vested		$	40.0		$	1.2		$	60.9
Aggregate intrinsic value of nonvested RSUs (1)		$	99.9		$	127.0		$	69.2
Total grant-date fair value of RSUs vested		$	23.6		$	0.8		$	42.4
Performance-based RSUs(2):
Weighted-average grant-date fair value per share of RSUs granted		$	80.59		$	—		$	—
Weighted-average remaining vesting period (years)			2.1			—			—
Total intrinsic value of RSUs vested		$	—		$	—		$	—
Aggregate intrinsic value of nonvested RSUs (1)		$	4.4		$	—		$	—
Total grant-date fair value of RSUs vested		$	—		$	—		$	—

(1)Based on the market price of the underlying common stock as of May 31, 2020, 2019 and 2018.

(2)No performance-based RSUs were granted during fiscal 2019 and fiscal 2018.

Restricted stock awards: The Board approves grants of restricted stock awards to the Company’s executives and outside directors. All shares underlying awards of restricted stock are restricted in that they are not transferable until they vest. Recipients of the restricted stock earn dividends, which are paid to the recipient at the time the awards vest. If the recipient does not vest in the shares due to leaving Paychex, all shares of restricted stock, and the dividends accrued thereon, when applicable, will be forfeited and returned to the Company.

Time-based restricted stock awards: Time-based restricted stock awards granted to executives vest one-third per annum. Time-based restricted stock awards granted to outside directors vest on the one-year anniversary of the grant date. Vesting is generally achieved on these dates with active employment or participation as a member of the Board on the date of vesting. The fair value of time-based restricted stock awards is equal to the closing market price of the underlying common stock as of the date of grant.

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Performance-based restricted stock awards: Performance-based restricted stock awards primarily have a two-year performance period, after which the number of shares earned will be determined based on achievement against pre-established performance targets. The restricted shares earned are then subject to a one-year service period. Performance-based shares do not earn dividend equivalents during the performance period. The fair value of performance-based shares is equal to the closing market price of the underlying common stock as of the date of grant, adjusted for the present value of expected dividends over the performance period.

The following table summarizes time-based and performance-based restricted stock award activity for fiscal 2020:

				Weighted-					Weighted-
				average					average
				grant-date			Performance-		grant-date
		Time-based		fair value			based		fair value
In millions, except per share amounts		shares		per share			shares		per share
Nonvested as of May 31, 2019		0.1		$	64.32		0.4		$	58.09
Granted (1)		0.1		$	84.46		—		$	80.59
Vested		(0.1)		$	63.63		(0.1)		$	56.97
Forfeited		—		$	73.82		—		$	63.07
Nonvested as of May 31, 2020		0.1		$	73.20		0.3		$	61.97

(1)For performance-based shares, granted number assumes achievement of performance goals at target. Actual number of shares to be earned may differ from this amount.

Other information pertaining to time-based and performance-based restricted stock awards is as follows:

		Year ended May 31,
In millions, except per share amounts		2020			2019			2018
Weighted-average grant-date fair value per share of time-based shares granted		$	84.46		$	69.80		$	57.50
Total grant-date fair value of time-based restricted stock vested		$	3.2		$	3.0		$	3.0
Weighted-average grant-date fair value per share of performance-based shares granted		$	80.59		$	65.17		$	53.08
Total grant-date fair value of performance-based restricted stock vested		$	5.8		$	5.3		$	6.6

Long-term Incentive Plan (“LTIP”): The Company has two long-term incentive performance-based stock awards under its LTIP. In July 2011, the Board approved a special award of performance-based non-qualified stock options. Subsequent grants of this award were made upon the hire of new executives. Under this award, stock options were granted to executives with vesting dependent on achievement against long-term strategic and financial objectives. Total stock options earned and vested were based on achievement against pre-established targets for the fiscal year ended May 31, 2016 (”fiscal 2016”). The performance period was completed in fiscal 2016. Although the performance period was completed and the stock options were earned and vested, there are still stock options outstanding as of May 31, 2020.

In July 2016, the Board approved an LTIP award comprised of both performance-based non-qualified stock options and performance-based restricted stock. This award was granted to executives down to the vice president level with vesting dependent on achievement against long-term strategic and financial objectives. Total stock options and restricted shares to be earned are based on achievement against pre-established targets for the fiscal year ending May 31, 2020.

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The following table summarizes LTIP performance-based stock option activity for fiscal 2020:

							Weighted-
				Weighted-			average
		Shares		average			remaining		Aggregate
		subject		exercise price			contractual		intrinsic
In millions, except per share amounts		to options		per share			term (years)		value**(1)**
Outstanding as of May 31, 2019		1.9		$	51.09
Granted		—		$	—
Exercised		(0.5)		$	31.35
Forfeited		(0.1)		$	63.17
Expired		—		$	—
Outstanding as of May 31, 2020		1.3		$	56.13		5.3		$	21.8
Exercisable as of May 31, 2020		0.2		$	31.63		1.1		$	9.0

(1)Shares valued at the market price of the underlying stock as of May 31, 2020 less the exercise price.

Other information pertaining to LTIP performance-based stock options is as follows:

		Year ended May 31,
In millions		2020			2019			2018
Total intrinsic value of stock options exercised		$	23.0		$	8.2		$	7.9

No performance-based stock options vested in fiscal years 2020, 2019, or 2018.

LTIP performance-based restricted stock do not earn dividend equivalents during the performance period. The fair value of LTIP performance-based restricted stock is equal to the closing market price of the underlying common stock as of the date of grant, adjusted for the present value of expected dividends over the performance period. If the recipient leaves Paychex prior to the vesting date for any reason, the shares of performance-based restricted stock will be forfeited and returned to the Company.

The following table summarizes LTIP performance-based restricted stock activity for fiscal 2020:

				Weighted-
				average grant
		Restricted		date fair value
In millions, except per share amounts		shares		per share
Nonvested as of May 31, 2019		0.2		$	54.31
Granted		—		$	—
Exercised		—		$	—
Forfeited		(0.1)		$	56.97
Expired		—		$	—
Nonvested as of May 31, 2020		0.1		$	53.97

Non-compensatory employee benefit plan: The Company offers a qualified Employee Stock Purchase Plan (“ESPP”) to all employees. The Company’s common stock can be purchased through a payroll deduction at a discount to the market price. The qualified ESPP allows for a discount of up to 15% based on the sole discretion of the committee established to administer the plan. For offering periods during fiscal years 2020, 2019, and 2018 the discount was set at 5% of the market price. Transactions under the non-qualified ESPP occurred directly through the Company’s transfer agent and no brokerage fees were charged to employees. Transactions under the qualified ESPP occur through the Company’s third-party stock plan administrator. The plans have been deemed non-compensatory and therefore, no stock-based compensation costs have been recognized for fiscal years 2020, 2019, or 2018 related to the plan.

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Note G — Funds Held for Clients and Corporate Investments

Funds held for clients and corporate investments are as follows:

		May 31, 2020
					Gross			Gross
		Amortized			unrealized			unrealized			Fair
In millions		cost			gains			losses			value
Type of issue:
Funds held for clients' money market securities and other ‎ cash equivalents		$	683.5		$	—		$	—		$	683.5
Available-for-sale securities:
Asset-backed securities			68.0			1.7			—			69.7
Corporate bonds			649.6			34.1			(0.1)			683.6
Municipal bonds			1,373.8			37.4			(1.6)			1,409.6
U.S. government agency and treasury securities			565.8			28.5			—			594.3
Total available-for-sale securities			2,657.2			101.7			(1.7)			2,757.2
Other			25.4			2.2			(0.4)			27.2
Total funds held for clients and corporate investments		$	3,366.1		$	103.9		$	(2.1)		$	3,467.9

		May 31, 2019
					Gross			Gross
		Amortized			unrealized			unrealized			Fair
In millions		cost			gains			losses			value
Type of issue:
Funds held for clients' money market securities and other ‎ cash equivalents		$	204.5		$	—		$	—		$	204.5
Available-for-sale securities:
Asset-backed securities			5.3			—			—			5.3
Corporate bonds			442.1			5.3			(0.9)			446.5
Municipal bonds			1,411.6			12.4			(0.5)			1,423.5
U.S. government agency and treasury securities			612.5			4.7			(1.3)			615.9
Variable rate demand notes			1,129.6			—			—			1,129.6
Total available-for-sale securities			3,601.1			22.4			(2.7)			3,620.8
Other			26.3			1.7			(0.3)			27.7
Total funds held for clients and corporate investments		$	3,831.9		$	24.1		$	(3.0)		$	3,853.0

Included in funds held for clients’ money market securities and other cash equivalents as of May 31, 2020 were bank demand deposit accounts and money market funds.

Included in asset-backed securities as of May 31, 2020 were investment-grade securities primarily collateralized by fixed-rate auto loans and credit card receivables and all have credit ratings of AAA. The primary risk associated with these securities is the collection of the underlying receivables. Collateral on these asset-backed securities has performed as expected through May 31, 2020.

Included in corporate bonds as of May 31, 2020 were investment-grade securities covering a wide range of issuers, industries, and sectors and primarily carry credit ratings of A or better and having maturities ranging from June 2020 through September 2026.

Included in municipal bonds as of May 31, 2020 were general obligation bonds and revenue bonds primarily carrying credit ratings of AA or better and have maturities ranging from June 2020 through September 2027.

A substantial portion of our portfolios are invested in high credit quality securities with ratings of AA or higher, and A-1/P-1 ratings on short-term securities.

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The classification of funds held for clients and corporate investments on the Consolidated Balance Sheets is as follows:

		May 31,
In millions		2020			2019
Funds held for clients		$	3,430.5		$	3,803.8
Corporate investments			27.2			39.0
Long-term corporate investments			10.2			10.2
Total funds held for clients and corporate investments		$	3,467.9		$	3,853.0

Funds held for clients’ money market securities and other cash equivalents is collected from clients before due dates for payroll tax administration services and employee payment services and is invested until remitted to the applicable tax or regulatory agencies or client employees. Based upon the Company’s intent and its contractual obligation to clients, these funds are considered restricted until they are remitted to fund these client obligations.

The Company’s available-for-sale securities reflected net unrealized gains of $100.0 million and $19.7 million as of May 31, 2020 and May 31, 2019, respectively. Included in net unrealized gains as of May 31, 2020 and May 31, 2019 were 19 and 269 available-for-sale securities in an unrealized loss position, representing approximately 2% and 28% of the total securities held, respectively. The available-for-sale securities in an unrealized loss position were as follows:

		May 31, 2020
		Securities in an unrealized‎loss position for less than‎twelve months						Securities in an unrealized‎loss position for more than‎twelve months						Total
		Gross						Gross						Gross
		unrealized			Fair			unrealized			Fair			unrealized			Fair
In millions		losses			value			losses			value			losses			value
Type of issue:
Corporate bonds		$	(0.1)		$	6.5		$	—		$	—		$	(0.1)		$	6.5
Municipal bonds			(1.6)			60.3			—			—			(1.6)			60.3
Total		$	(1.7)		$	66.8		$	—		$	—		$	(1.7)		$	66.8

		May 31, 2019
		Securities in an unrealized‎loss position for less than‎twelve months						Securities in an unrealized‎loss position for more than‎twelve months						Total
		Gross						Gross						Gross
		unrealized			Fair			unrealized			Fair			unrealized			Fair
In millions		losses			value			losses			value			losses			value
Type of issue:
Corporate bonds		$	—		$	1.5		$	(0.9)		$	133.8		$	(0.9)		$	135.3
Municipal bonds			—			3.2			(0.5)			249.1			(0.5)			252.3
U.S. government agency and treasury securities			—			4.7			(1.3)			175.6			(1.3)			180.3
Total		$	—		$	9.4		$	(2.7)		$	558.5		$	(2.7)		$	567.9

The Company regularly reviews its investment portfolios to determine if any investment is other-than-temporarily impaired due to changes in credit risk or other potential valuation concerns. The Company believes that the investments held as of May 31, 2020 that had gross unrealized losses of $1.7 million were not other-than-temporarily impaired. The Company believes that it is probable that the principal and interest will be collected in accordance with contractual terms, and that the unrealized losses on these securities were due to changes in interest rates and were not due to increased credit risk or other valuation concerns. Most of the securities in an unrealized loss position as of May 31, 2020 and May 31, 2019 held an AA rating or better. The Company does not intend to sell these investments until the recovery of their amortized cost basis or maturity, and further believes that it is not more-likely-than-not that it will be required to sell these investments prior to that time. The Company’s assessment that an investment is not other-than-temporarily impaired could change in the future due to new developments, including developments related to COVID-19, or changes in the Company’s strategies or assumptions related to any particular investment.

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Realized gains and losses from the sale of available-for-sale securities were as follows:

		Year ended May 31,
In millions		2020			2019			2018
Gross realized gains		$	11.6		$	0.6		$	0.3
Gross realized losses			(0.3)			(0.6)			(0.2)
Net realized gains		$	11.3		$	—		$	0.1

The amortized cost and fair value of available-for-sale securities that had stated maturities as of May 31, 2020 are shown below by contractual maturity. Expected maturities can differ from contractual maturities because borrowers may have the right to prepay obligations without prepayment penalties.

		May 31, 2020
		Amortized			Fair
In millions		cost			value
Maturity date:
Due in one year or less		$	353.4		$	355.7
Due after one year through three years			700.9			723.5
Due after three years through five years			812.0			850.0
Due after five years			790.9			828.0
Total		$	2,657.2		$	2,757.2

Variable rate demand notes (“VRDNs”) are primarily categorized as due after five years in the table above as the contractual maturities on these securities are typically 20 to 30 years. Although these securities are issued as long-term securities, they are priced and traded as short-term instruments because of the liquidity provided through the tender feature.

Note H — Fair Value Measurements

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The accounting standards related to fair value measurements include a hierarchy for information and valuations used in measuring fair value that is broken down into three levels based on reliability, as follows:

Level 1 valuations are based on quoted prices in active markets for identical instruments that the Company can access at the measurement date.

Level 2 valuations are based on inputs other than quoted prices included in Level 1 that are observable for the instrument, either directly or indirectly, for substantially the full term of the asset or liability including the following:

quoted prices for similar, but not identical, instruments in active markets;

quoted prices for identical or similar instruments in markets that are not active;

inputs other than quoted prices that are observable for the instrument; or

inputs that are derived principally from or corroborated by observable market data by correlation or other means.

Level 3 valuations are based on information that is unobservable and significant to the overall fair value measurement.

The carrying values of cash and cash equivalents, restricted cash and restricted cash equivalents, accounts receivable, net of allowance for doubtful accounts, accounts payable and short-term borrowings, when used by the Company, approximate fair value due to the short maturities of these instruments. Marketable securities included in funds held for clients and corporate investments consist primarily of securities classified as available-for-sale and are recorded at fair value on a recurring basis.

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The Company’s financial assets and liabilities measured at fair value on a recurring basis were as follows:

		May 31, 2020
					Quoted			Significant
					prices in			other			Significant
		Carrying			active			observable			unobservable
		value			markets			inputs			inputs
In millions		(Fair value)			(Level 1)			(Level 2)			(Level 3)
Assets:
Restricted and unrestricted cash equivalents:
Money market securities		$	43.5		$	43.5		$	—		$	—
Total restricted and unrestricted cash equivalents		$	43.5		$	43.5		$	—		$	—
Available-for-sale securities:
Asset-backed securities		$	69.7		$	—		$	69.7		$	—
Corporate bonds			683.6			—			683.6			—
Municipal bonds			1,409.6			—			1,409.6			—
U.S. government agency and treasury securities			594.3			—			594.3			—
Total available-for-sale securities		$	2,757.2		$	—		$	2,757.2		$	—
Other		$	27.2		$	27.2		$	—		$	—
Liabilities:
Other long-term liabilities		$	26.8		$	26.8		$	—		$	—

		May 31, 2019
					Quoted			Significant
					prices in			other			Significant
		Carrying			active			observable			unobservable
		value			markets			inputs			inputs
In millions		(Fair value)			(Level 1)			(Level 2)			(Level 3)
Assets:
Restricted and unrestricted cash equivalents:
Commercial paper		$	10.0		$	—		$	10.0		$	—
Money market securities			29.2			29.2			—			—
Total restricted and unrestricted cash equivalents		$	39.2		$	29.2		$	10.0		$	—
Available-for-sale securities:
Asset-backed securities		$	5.3		$	—		$	5.3		$	—
Corporate bonds			446.5			—			446.5			—
Municipal bonds			1,423.5			—			1,423.5			—
U.S. government agency and treasury securities			615.9			—			615.9			—
Variable rate demand notes			1,129.6			—			1,129.6			—
Total available-for-sale securities		$	3,620.8		$	—		$	3,620.8		$	—
Other		$	27.7		$	27.7		$	—		$	—
Liabilities:
Other long-term liabilities		$	27.0		$	27.0		$	—		$	—

In determining the fair value of its assets and liabilities, the Company predominately uses the market approach. Money market securities, which are cash equivalents, are considered Level 1 investments as they are valued based on quoted market prices in active markets. Cash equivalents also include commercial paper which is considered a Level 2 investment as it is valued based on similar, but not identical, instruments in active markets. Available-for-sale securities, including asset-backed securities, corporate bonds, municipal bonds, U.S. government agency and treasury securities, and VRDNs, are included in Level 2 and are valued utilizing inputs obtained from an independent pricing service. To determine the fair value of the Company’s Level 2 available-for-sale securities, the independent pricing service uses a variety of inputs, including benchmark yields, reported trades, non-binding broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, new issue data, and monthly payment information. The Company has not adjusted the prices obtained from the independent pricing service because it believes that they are appropriately valued.

Assets included as other are mutual fund investments, consisting of participants’ eligible deferral contributions under the Company’s non-qualified and unfunded deferred compensation plans. The related liability is reported as other long-term liabilities. The mutual funds are considered Level 1 investments as they are valued based on quoted market prices in active markets.

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The Company’s long-term borrowings are accounted for under historical cost. As of May 31, 2020 and May 31, 2019, the fair value of long-term borrowings, net of debt issuance costs was $441.9 million and $416.6 million for the Senior Notes, Series A, respectively, and $448.7 million and $418.3 million for the Senior Notes, Series B, respectively.

The Company’s long-term borrowings are not traded in active markets and as a result its fair values were estimated using a market approach employing Level 2 valuation inputs, including borrowing rates the Company believes are currently available based on loans with similar terms and maturities.

The preceding methods described may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. Furthermore, although the Company believes its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different fair value measurement at the reporting date.

Note I: Leases

The Company’s lease portfolio consists primarily of operating leases for office space and equipment and has remaining terms from less than one year up to ten years, with contractual terms expiring from 2020 to 2030. Lease contracts may include one or more renewal options that allow the Company to extend the lease term, typically from one year to five years per each renewal option. The exercise of lease options is generally at the discretion of the Company. None of the Company’s leases contain residual value guarantees, substantial restrictions, or covenants.

Supplemental balance sheet information related to the Company’s leases were as follows:

$ in millions		As of May 31, 2020
Operating lease right-of-use assets, net of accumulated amortization		$	114.8
Operating lease liabilities, current(1)			37.2
Operating lease liabilities, non-current			96.9
Weighted average remaining lease term (in years)			4.6
Weighted average discount rate			2.06%

(1) The current portion of operating lease liabilities is reported in the other current liabilities line item on the Company’s Consolidated Balance Sheets.

The components of lease expense were as follows:

		Year ended May 31,
In millions		2020
Fixed payment operating lease expense		$	38.2
Variable payment operating lease expense			8.6
Short-term lease expense			0.2

Fixed payment lease expense was $38.2 million, $42.9 million, and $39.9 million for fiscal years 2020, 2019, and 2018, respectively.

Supplemental cash flow information related to the Company’s leases were as follows:

		Year ended May 31,
In millions		2020
Cash paid for amounts included in the measurement of lease liabilities		$	41.6
Amortization of ROU assets			34.4
ROU assets obtained in exchange for new operating lease liabilities			21.5
Lease incentives received in the form of tenant allowances and free rent			6.1

Lease incentives received in the form of tenant allowances and free rent was $6.1 million, $3.5 million, and $7.7 million for fiscal years 2020, 2019, and 2018, respectively.

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Future lease payments are as follows:

		May 31,
In millions		2020			2019**(1)**
2021		$	39.4		$	29.9
2022			31.6			21.3
2023			23.7			13.8
2024			18.5			10.5
2025			13.9			—
Thereafter			13.8			10.7
Total future lease payments			140.9			86.2
Less: imputed interest			6.8			—
Total operating lease liabilities		$	134.1		$	—
Current portion		$	37.2		$	—
Non-current portion		$	96.9		$	—

(1)Presented in accordance with legacy GAAP, ASC Topic 840, Leases.

As of May 31, 2020, the Company has entered into two lease agreements that have not yet commenced for terms up to ten years. These leases will require lease payments over their terms of approximately $6.8 million.

Note J — Property and Equipment, Net of Accumulated Depreciation

The components of property and equipment, at cost, consisted of the following:

		May 31,
In millions		2020			2019
Land and improvements		$	10.8		$	10.8
Buildings and improvements			166.5			162.9
Data processing equipment			222.4			221.6
Software (1)			690.9			626.6
Furniture, fixtures, and equipment			116.3			117.2
Leasehold improvements			110.6			105.4
Construction in progress (1)			47.1			30.3
Total property and equipment, gross			1,364.6			1,274.8
Less: Accumulated depreciation			957.2			866.1
Property and equipment, net of accumulated depreciation		$	407.4		$	408.7

(1)Software includes both purchased software and costs capitalized related to internally developed software placed in service. Capitalized costs related to internally developed software that has not yet been placed in service is included in construction in progress.

Depreciation expense was $127.8 million, $125.7 million, and $116.9 million for fiscal years 2020, 2019, and 2018, respectively.

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Note K — Goodwill and Intangible Assets, Net of Accumulated Amortization

Goodwill and changes in goodwill as of and for the years ended May 31, 2020 and May 31, 2019 were as follows:

		May 31,
In millions		2020			2019
Balance, beginning of fiscal year		$	1,782.6		$	814.0
Changes during the period:
Goodwill acquired			4.1			972.1
Acquisition accounting adjustments			4.5			1.6
Currency translation adjustment			(0.1)			(5.1)
Balance, end of fiscal year		$	1,791.1		$	1,782.6

Goodwill acquired in fiscal 2019 related to the December 2018 acquisition of Oasis. Refer to Note D of this Item 8 for further details.

The Company had certain intangible assets on its Consolidated Balance Sheets. The components of intangible assets, at cost, consisted of the following:

		May 31,
In millions		2020			2019
Client lists		$	618.4		$	608.2
Other intangible assets			23.3			23.0
Total intangible assets, gross			641.7			631.2
Less: Accumulated amortization			311.1			232.1
Intangible assets, net of accumulated amortization		$	330.6		$	399.1

During fiscal 2020, the Company acquired customer lists with a weighted-average amortization of 7.7 years. Amortization expense relating to intangible assets was $81.9 million, $55.8 million, and $21.1 million for fiscal years 2020, 2019, and 2018, respectively.

The Company did not recognize an impairment loss as it relates to its goodwill or intangible assets during the fiscal years 2020, 2019, or 2018.

The estimated amortization expense for the next five fiscal years relating to intangible asset balances is as follows:

In millions		Estimated amortization
Year ending May 31,		expense
2021		$	65.8
2022			60.6
2023			56.0
2024			53.1
2025			50.8

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Note L — Income Taxes

The components of deferred tax assets and liabilities are as follows:

		May 31,
In millions		2020			2019
Deferred tax assets:
Compensation and employee benefit liabilities		$	37.6		$	36.3
Other current liabilities			8.0			8.8
Tax credit carry forward			0.2			0.2
Stock-based compensation			16.8			17.5
Leases			34.2			—
Net operating loss ("NOL") carry forwards			9.7			10.6
Tax benefit of uncertain tax positions			7.0			5.7
Other			0.5			1.2
Gross deferred tax assets			114.0			80.3
Deferred tax liabilities:
Deferred contract costs			122.8			119.7
Capitalized software			45.7			42.8
Depreciation			11.4			3.0
Goodwill and intangible assets			117.4			127.5
Operating lease right-of-use assets			29.3			—
Revenue not subject to current taxes			3.7			5.2
Unrealized gains on available-for-sale securities			24.5			5.2
Gross deferred tax liabilities			354.8			303.4
Net deferred tax liability		$	(240.8)		$	(223.1)

The deferred tax asset related to NOL carry forward is comprised of $4.4 million of federal NOL carry forwards and $5.3 million of state NOL carry forwards. The federal NOL carry forwards were acquired through various acquisitions and expire between the fiscal years ending May 31, 2022 and May 31, 2037. The state NOL carry forwards expire between the fiscal years ending May 31, 2021 through May 31, 2039.

The components of the provision for income taxes are as follows:

		Year ended May 31,
In millions		2020			2019			2018
Current:
Federal		$	265.5		$	258.2		$	289.1
State			77.5			70.7			54.1
Total current			343.0			328.9			343.2
Deferred:
Federal			(0.5)			0.7			(38.0)
State			(3.5)			4.0			0.8
Total deferred			(4.0)			4.7			(37.2)
Income taxes		$	339.0		$	333.6		$	306.0

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A reconciliation of the U.S. federal statutory tax rate to the Company’s effective income tax rate is as follows:

		Year ended May 31,
		2020			2019			2018
Federal statutory tax rate		21.0	%		21.0	%		29.2	%
Increase/(decrease) resulting from:
Statutory tax rate reduction resulting from the Tax Act		—	%		—	%		(2.0)	%
State income taxes, net of federal tax benefit		3.9	%		4.3	%		3.0	%
Section 199 - Qualified production activities		—	%		—	%		(0.3)	%
Tax-exempt municipal bond interest		(0.4)	%		(0.5)	%		(1.1)	%
Stock option windfall benefit		(0.8)	%		(0.5)	%		(0.8)	%
Other items, including adoption of ASC 606		(0.1)	%		0.1	%		(4.5)	%
Effective income tax rate		23.6	%		24.4	%		23.5	%

The effective income tax rates in all periods were impacted by recognition of net discrete tax benefits related to employee stock-based compensation payments. In fiscal 2019, the effective income tax rate included discrete tax expense for changes in tax reserves and the revaluation of deferred tax balances for legislative updates. In fiscal 2018, as a result of the Tax Act, we recorded a non-recurring net tax benefit for the revaluation of our net deferred tax liabilities.

The Tax Act made broad and complex changes to U.S. federal corporate income taxation including, but not limited to: (i) reducing the statutory corporate tax rate from 35% to 21% (a blended statutory tax rate of 29.2% for fiscal 2018); (ii) repeal of the Section 199 qualified production activities deduction; (iii) creating new or furthering limitations to the deductibility of certain officer compensation, interest, meals, entertainment and other expenses; and (iv) changing from a worldwide to a territorial taxation system. As of May 31, 2019, the Company’s accounting for the impact of the Tax Act was completed.

As a result of the Tax Act, the Company derived estimated tax benefits of $160.5 million, including a net tax benefit of $83.5 million related to the revaluation of the Company’s net deferred tax liabilities and a net tax benefit of $77.0 million related to the reduction in the Company’s statutory income tax rate for fiscal 2018 applied to income before taxes. These amounts totaled $0.23 per diluted share and $0.21 per diluted share, respectively.

Uncertain income tax positions: The Company is subject to U.S. federal income tax, numerous local and state tax jurisdictions within the U.S., and taxes in Europe. The Company maintains a reserve for uncertain tax positions. As of May 31, 2020 and May 31, 2019, the total reserve for uncertain tax positions, including interest and net of federal benefits, was $26.5 million and $21.6 million, respectively, and was included in long-term liabilities on the Consolidated Balance Sheets.

A reconciliation of the beginning and ending amounts of the Company’s gross unrecognized tax benefits, not including interest or other potential offsetting effects, is as follows:

		Year ended May 31,
In millions		2020			2019			2018
Balance as of beginning of fiscal year		$	22.1		$	14.9		$	43.7
Additions for tax positions of the current year			4.1			3.8			2.3
Additions for tax positions of prior years			1.2			5.2			0.1
Reductions for tax positions of prior years			(0.6)			—			(1.2)
Settlements with tax authorities			—			(1.2)			(28.6)
Expiration of the statute of limitations			(0.6)			(0.6)			(1.4)
Balance as of end of fiscal year		$	26.2		$	22.1		$	14.9

In May 2018, the Company settled its IRS examination for fiscal 2012 through fiscal 2017. As a result of the settlement, the reserve for uncertain tax positions was decreased by $27.2 million and income tax expense of $2.7 million was recorded.

The reserve as of May 31, 2020 substantially relates to the Company’s uncertain tax positions for certain state income tax matters. The Company believes the reserve for uncertain tax positions, including interest and net of federal benefits, of $26.5 million as of May 31, 2020 adequately covers open tax years and uncertain tax positions up to and including fiscal 2020 for major taxing jurisdictions. As of May 31, 2020 and May 31, 2019, the entire $26.5 million and $21.6 million, respectively, of unrecognized tax benefits, including interest and net of federal benefit, if recognized, would impact the Company’s effective income tax rate.

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The Company has concluded all U.S. federal income tax matters through fiscal 2017. With limited exception, state income tax audits by taxing authorities are closed through fiscal 2014, primarily due to expiration of the statute of limitations.

The Company continues to follow its policy of recognizing interest and penalties accrued on tax positions as a component of income taxes on the Consolidated Statements of Income and Comprehensive Income. The amount of accrued interest and penalties associated with the Company’s tax positions is immaterial to the Consolidated Balance Sheets. The amount of interest and penalties recognized for fiscal years 2020, 2019, and 2018 was immaterial to the Company’s results of operations.

Note M — Accumulated Other Comprehensive Income/(Loss)

The changes in accumulated other comprehensive income/(loss) on the Company’s Consolidated Balance Sheets are as follows:

		Year ended May 31,
In millions		2020			2019			2018
Beginning balance		$	0.1		$	(36.2)		$	20.0
Other comprehensive income/(loss):
Unrealized gains/(losses) on securities, net of tax			68.9			44.0			(47.6)
Reclassification adjustment for the net gain on sale of available-for-sale ‎ securities realized in net income, net of tax			(8.5)			—			—
Foreign currency translation adjustment			(4.0)			(7.7)			(8.6)
Total other comprehensive income/(loss), net of tax			56.4			36.3			(56.2)
Ending balance		$	56.5		$	0.1		$	(36.2)
Total tax expense/(benefit) included in other comprehensive income/(loss)		$	19.8		$	14.2		$	(22.6)

Reclassification adjustments out of accumulated other comprehensive income/(loss) are for realized gains and losses on the sale of available-for-sale securities and are reflected in interest on funds held for clients and other (expense)/income, net on the Consolidated Statements of Income and Comprehensive Income.

Note N — Short-term Financing

The Company maintains committed and unsecured credit facilities and irrevocable letters of credit as part of its normal and recurring business operations. The purpose of these credit facilities is to meet short-term funding requirements, finance working capital needs and for general corporate purposes. The Company typically borrows on an overnight or short-term basis on its credit facilities.

Details of the Company’s credit facilities are as follows:

				Maximum			Amount Outstanding
				Amount			May 31,
$ in millions		Expiration Date		Available			2020			2019
Credit facilities:
JP Morgan Chase Bank, N.A. ("JPM")(1)(2)		July 31, 2024		$	1,000.0		$	-		$	-
JPM (1)		August 17, 2022		$	500.0			-			-
PNC Bank, National Association (“PNC”) (weighted-average interest rate of 1.28% at May 31, 2020 (3)		February 6, 2023		$	250.0			5.1			-
Outstanding short-term financing (4)							$	5.1		$	-

(1)JPM acts as the administrative agent for this syndicated credit facility.

(2)This agreement replaced the Company’s predecessor five-year unsecured $1.0 billion credit facility dated August 5, 2015, which was terminated on July 31, 2019.

(3)This agreement replaced the Company’s predecessor four-year unsecured $150.0 million credit facility dated March 17, 2016, which was terminated on February 6, 2020.

(4)The total amount available under these credit facilities as of May 31, 2020 was approximately $1.8 billion. Amounts under the PNC credit facility remain outstanding as of the date of this report.

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Subsequent to May 31, 2020, the Company borrowed twice on an overnight basis, $89.5 million on a weighted-average basis under its PNC credit facility.

Upon the expiration date of any credit facility, any borrowings outstanding under that facility will mature and be payable on such date.

Interest rates on each of the Company’s credit facilities can be based upon (1) an alternate base rate that is established by the lending institution at the highest of several publicly available interest rates, plus an applicable interest rate margin, or (2) at our election, the adjusted London Interbank Offered Rate (“LIBOR”) or an alternate interest rate as determined by the administrative agent, plus an applicable interest rate margin. The Company is also required to pay a commitment fee, ranging from 0.05% to 0.15%, related to the unutilized portion of each credit facility. The commitment fee is determined on a sliding-scale basis based upon the Company’s consolidated leverage ratio.

Obligations under the credit facilities are guaranteed by the Company and certain of its subsidiaries. The credit facilities contain financial and operational covenants with which the Company must maintain compliance. The Company’s ability to borrow under the credit facilities may be restricted in the event of certain covenant breaches or events of default. In addition, the terms of the credit facilities could restrict the Company’s ability to engage in certain business transactions. The Company was in compliance with all of these covenants as of May 31, 2020.

Certain lenders under these credit facilities, and their respective affiliates, have performed, and may in the future perform for the Company, various commercial banking, investment banking, underwriting, and other financial advisory services, for which they have received, and will continue to receive in the future, customary fees and expenses.

Letters of credit: The Company had irrevocable standby letters of credit outstanding totaling $147.9 million and $148.9 million as of May 31, 2020 and May 31, 2019, respectively, required to secure commitments for certain insurance policies. The letters of credit expire at various dates between June 2020 and January 2022. No amounts were outstanding on these letters of credit during fiscal 2020 or fiscal 2019, or as of May 31, 2020 and May 31, 2019. Subsequent to May 31, 2020, letters of credit expiring in June and July 2020 were renewed through June and July 2021, respectively.

Note O — Long-term Financing

On March 13, 2019, the Company and its Paychex of New York LLC (“PoNY”) subsidiary completed the private placement of Senior Notes, Series A in an aggregate principal amount of $400.0 million due on March 13, 2026, and Senior Notes, Series B in an aggregate principal amount of $400.0 million due on March 13, 2029 (collectively the “Notes”), pursuant to its Note Purchase and Guarantee Agreement (the “Agreement”) among the Company, PoNY, and the respective purchasers. Proceeds from the Notes were used to pay off $800.0 million in short-term borrowings under the Company’s JPM credit facilities used to temporarily finance the acquisition of Oasis.

Long-term debt, at amortized cost, consisted of the following:

		May 31,
In millions		2020			2019
Senior Notes, Series A		$	400.0		$	400.0
Senior Notes, Series B			400.0			400.0
Total long-term borrowings			800.0			800.0
Less: Debt issuance costs, net of accumulated amortization			(3.2)			(3.6)
Long-term borrowings, net of debt issuance costs		$	796.8		$	796.4

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Certain information related to the Senior Notes for fiscal 2020 and fiscal 2019 are as follows:

			Senior Notes	Senior Notes
			Series A	Series B
Stated interest rate			4.07%	4.25%
Effective interest rate			4.16%	4.32%
Interest rate type			Fixed	Fixed
Interest payment dates			Semi-annual, in arrears	Semi-annual, in arrears
Principal payment dates			March 13, 2026	March 13, 2029
Note type			Unsecured	Unsecured

The effective interest rates for each note series includes the interest on the note and amortization of debt issuance costs.

Payment of all amounts due with respect to the Notes and performance under the Agreement is guaranteed by the Company, PoNY and certain other subsidiaries of the Company. The Company may, at its option, prepay at any time all, or any part of, the Notes, subject to certain conditions as described in the Agreement.

The Agreement contains customary representations, warranties, affirmative and negative covenants, including financial covenants that are usual and customary for such arrangements. The Company was in compliance with all of these covenants as of May 31, 2020.

Note P — Supplemental Cash Flow Information

Income taxes paid were $298.8 million, $317.9 million, and $319.1 million for fiscal 2020, 2019, and 2018, respectively.

Interest expense paid was $38.0 million, $10.4 million, and $4.0 million for fiscal 2020, 2019, and 2018, respectively.

$33.2 million in Paychex common stock was issued in connection with the Company’s acquisition of HROi in fiscal 2018.

Note Q — Employee Benefit Plans

401(k) plan: The Company maintains a contributory savings plan that qualifies under section 401(k) of the Internal Revenue Code. The Paychex, Inc. 401(k) Incentive Retirement Plan (the “Plan”) allows all employees to immediately participate in the salary deferral portion of the Plan, contributing up to a maximum of 50% of their salary, subject to Internal Revenue Service limitations. Employees who have completed one year of service and a minimum of 1,000 hours worked are eligible to receive a Company matching contribution, when such contribution is in effect. The Company provided a matching contribution of 50% of up to 8% of eligible pay that an employee contributed to the Plan through March 29, 2018. Beginning March 30, 2018, the Company provides a matching contribution of 100% of the first 3% and 50% on the next 2% of eligible pay for a total matching contribution of 4%. Company contributions to the Plan for fiscal years 2020, 2019, and 2018 were $30.1 million, $29.3 million, and $23.6 million, respectively.

The Plan is 100% participant directed. Plan participants can fully diversify their portfolios by choosing from any or all investment fund choices in the Plan. Transfers in and out of investment funds, including the Paychex, Inc. Employee Stock Ownership Plan Stock Fund, are not restricted, with the exception of certain restricted trading periods for individuals designated as insiders as specified in the Company’s Insider Trading Policy. The Company match contribution, when in effect, follows the same fund elections as the employee compensation deferrals.

Deferred compensation plans: The Company and certain subsidiaries offer non-qualified and unfunded deferred compensation plans to a select group of key employees, executive officers, and outside directors. Eligible employees are provided with the opportunity to defer up to 50% of their annual base salary and bonus and outside directors may defer 100% of their Board cash compensation. Gains and losses are credited based on the participant’s election of a variety of investment choices. The Company does not match any participant deferral or guarantee its return. Distributions are paid at one of the following dates selected by the participant: the participant’s termination date, the date the participant retires from any active employment, or a designated specific date. The amounts accrued under these plans were $26.8 million and $27.0 million as of May 31, 2020 and May 31, 2019, respectively, and are reflected in other long-term liabilities on the accompanying Consolidated Balance Sheets.

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Note R — Commitments and Contingencies

Contingencies: The Company is subject to various claims and legal matters that arise in the normal course of its business. These include disputes or potential disputes related to breach of contract, tort, employment-related claims, tax claims, patent, statutory, and other matters.

The Company’s management currently believes that resolution of any outstanding legal matters will not have a material adverse effect on the Company’s financial position or results of operations. However, legal matters are subject to inherent uncertainties and there exists the possibility that the ultimate resolution of these matters could have a material adverse impact on the Company’s financial position and the results of operations in the period in which any such effect is recorded.

Other commitments: As of May 31, 2020, the Company had outstanding commitments under purchase orders, legally binding contractual arrangements, and commitments under existing workers’ compensation insurance agreements with minimum future payment obligations of approximately $306.6 million, including $5.0 million of commitments to purchase capital assets. These minimum future payment obligations relate to the following fiscal years:

		Minimum
In millions		payment
Year ending May 31,		obligation
2021		$	146.5
2022			59.1
2023			40.3
2024			17.1
2025			6.7
Thereafter			36.9

In the normal course of business, the Company makes representations and warranties that guarantee the performance of services under service arrangements with clients. Historically, there have been no material losses related to such guarantees. The Company has also entered into indemnification agreements with its officers and directors, which require the Company to defend and, if necessary, indemnify these individuals for certain pending or future claims as they relate to their services provided to the Company.

The Company currently self-insures the deductible portion of various insured exposures under certain corporate and PEO employee benefit plans. The Company’s estimated loss exposure under these insurance arrangements is recorded in other current liabilities on the Consolidated Balance Sheets. Historically, the amounts accrued have not been material and were not material as of May 31, 2020. The Company also maintains insurance coverage in addition to its purchased primary insurance policies for gap coverage for employment practices liability, errors and omissions, warranty liability, theft and embezzlement, cyber threats, and acts of terrorism; and capacity for deductibles and self-insured retentions through its captive insurance company.

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Note S — Quarterly Financial Data (Unaudited)

In millions, except per share amounts

		Three Months Ended
Fiscal 2020		August 31			November 30			February 29			May 31			Full Year
Service revenue		$	971.5		$	970.8		$	1,121.5		$	889.8		$	3,953.6
Interest on funds held for clients			20.5			19.9			21.2			25.3			86.9
Total revenue		$	992.0		$	990.7		$	1,142.7		$	915.1		$	4,040.5
Operating income		$	349.1		$	341.7		$	470.1		$	299.6		$	1,460.5
Other expense, net			(4.8)			(4.7)			(5.9)			(8.0)			(23.4)
Income before income taxes			344.3			337.0			464.2			291.6			1,437.1
Income taxes			80.1			78.3			109.7			70.9			339.0
Net income		$	264.2		$	258.7		$	354.5		$	220.7		$	1,098.1
Basic earnings per share(1)		$	0.74		$	0.72		$	0.99		$	0.62		$	3.06
Diluted earnings per share(1)		$	0.73		$	0.72		$	0.98		$	0.61		$	3.04
Weighted-average common shares ‎ outstanding			358.6			358.1			358.5			358.7			358.5
Weighted-average common shares ‎ outstanding, assuming dilution			361.5			360.6			361.0			360.7			361.0
Cash dividends per common share		$	0.62		$	0.62		$	0.62		$	0.62		$	2.48
Total net realized gains(2)		$	0.9		$	0.9		$	0.6		$	8.9		$	11.3

		Three Months Ended
Fiscal 2019		August 31			November 30			February 28			May 31			Full Year
Service revenue		$	845.7		$	840.6		$	1,047.4		$	958.2		$	3,691.9
Interest on funds held for clients			17.1			18.3			23.0			22.2			80.6
Total revenue		$	862.8		$	858.9		$	1,070.4		$	980.4		$	3,772.5
Operating income		$	320.3		$	307.2		$	429.3		$	314.5		$	1,371.3
Other income/(expense), net			2.3			2.1			(3.7)			(4.0)			(3.3)
Income before income taxes			322.6			309.3			425.6			310.5			1,368.0
Income taxes			79.0			73.5			101.0			80.1			333.6
Net income		$	243.6		$	235.8		$	324.6		$	230.4		$	1,034.4
Basic earnings per share(1)		$	0.68		$	0.66		$	0.90		$	0.64		$	2.88
Diluted earnings per share(1)		$	0.67		$	0.65		$	0.90		$	0.64		$	2.86
Weighted-average common shares ‎ outstanding			359.1			359.1			359.2			359.4			359.2
Weighted-average common shares ‎ outstanding, assuming dilution			361.5			361.5			361.6			362.5			361.8
Cash dividends per common share		$	0.56		$	0.56		$	0.56		$	0.62		$	2.30
Total net realized gains/(losses)(2)		$	0.1		$	(0.3)		$	0.1		$	0.1		$	—

(1)Each quarter is a discrete period and the sum of the four quarters’ basic and diluted earnings per share amounts may not equal the full year amount.

(2)Total net realized gains/(losses) on the combined funds held for clients and corporate investment portfolios.

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Sch****edule II — Valuation and Qualifying Accounts

PAYCHEX, INC.

CONSOLIDATED FINANCIAL STATEMENT SCHEDULE

FOR THE YEAR ENDED MAY 31,

(In millions)

								Additions to/
		Balance as of			Additions			(deductions						Balance as
		beginning			charged to			from) other			Costs and			of end
Description		of fiscal year			expenses			accounts**(1)**			deductions**(2)**			of fiscal year
2020
Allowance for doubtful accounts		$	7.5		$	7.8		$	3.0		$	5.8		$	12.5
Reserve for client fund losses		$	2.7		$	5.2		$	(3.0)		$	4.9		$	—
2019
Allowance for doubtful accounts		$	7.0		$	3.3		$	0.7		$	3.5		$	7.5
Reserve for client fund losses		$	2.4		$	3.7		$	—		$	3.4		$	2.7
2018
Allowance for doubtful accounts		$	6.0		$	3.6		$	—		$	2.6		$	7.0
Reserve for client fund losses		$	3.0		$	3.1		$	—		$	3.7		$	2.4

(1)Amounts related to business acquisitions in fiscal 2019 and the reclassification of the reserve for client fund losses in fiscal 2020.

(2)Uncollectible amounts written off, net of recoveries, and other adjustments.